Industry Overview: Gold Mining &
Summary and Investment Opportunity
|Despite the recent volatility of gold prices, the longer
term price rally in gold and the weakness of the U.S.
Dollar have kept gold in the spotlight. However, gold
mining share prices have generally failed to keep pace,
and as long as gold prices remain near current levels,
we believe the medium-term outlook for gold mining shares
is quite good.
The large budget and trade deficits are currently driving
meaningful dollar depreciation against many of the U.S.'s
trading partners. Should the dollar show continued weakness,
it will likely benefit the price of gold and, eventually,
the price of gold mining equities as well.
We believe gold stocks are currently favored by most industry
fundamentals, such as declining gold production, expanding
exploration budgets (especially at the major gold producers),
and potentially slower central bank gold sales.
Investing in gold exploration and mining equities has
traditionally been, and continues to be, a risky proposition.
However, given the ongoing need of major producers to
replenish their increasingly-depleted reserves, and given
the strong fundamentals the industry is currently experiencing,
we believe many good investment opportunities exist in
the shares of exploration and junior gold-producing mining
The purpose of this industry report is to provide an overview
of the gold mining industry, discuss some of the factors
affecting the price of gold and gold mining shares, and
provide a brief description of some promising gold exploration
& mine development companies.
Overview of the Gold Mining
Humans have mined for gold for thousands of
years, and mining continues today on almost every continent.
The size and complexity of gold mining operations ranges from
the relatively small, simple mine, to the massive, complex
operation that extends miles beneath the surface and produces
millions of troy ounces per year. In the aggregate, on a worldwide
basis, gold mining operations produced 2,600 tons of gold
during 2003, according to Gold Fields Mineral Services.
While gold is produced on every continent except
Antarctica, the top three gold producing countries in the
world are South Africa, the United States, and Australia.
According to Goldfields Mineral Services, South Africa accounted
for 14% of gold production in 2003, with the U.S. and Australia
producing 11% each. China and Russia are also large gold producers,
and South American countries (particularly Peru) and Canada
remain major players.
Much of the exploration and new mine production
is happening in locales such as Ghana, Chile, and Peru, with
successful smaller scale exploration occurring throughout
Africa, Latin America, and Asia. There continues to be significant
active exploration in Canada and the Western United States
Source: USGS 2002 World Mine Production,
Gold production appears to have leveled off
in recent years, largely as a result of low gold prices, which
discouraged exploration and development activity at the major
mining houses. With gold prices currently on the rise in U.S.
Dollar terms, we are seeing a resurgence of exploration activity
in large and small gold mining companies alike.
Source: USGS, World Gold Council
The gold mining industry can be broadly categorized
in terms of three groups. The first category is that of "the
major gold producers." While the exact definition of
what constitutes a major player is not precisely agreed upon,
a "major producer" is typically a company with multiple
gold-producing locations and an annual output measured in
millions of troy ounces per year. It is notable that the bigger
companies continue to grow over time, as the top-end of the
gold mining sector continues to experience significant consolidation.
Today, the top ten gold mining companies produce roughly 50%
of the world's annual output, up from 40% in the early 1990's.
The next group of companies is the minor gold
producers, which represent roughly 80% of the operating mines
worldwide, although only 50% of the worldwide gold production.
These companies operate in various nations and economies around
the globe, and are often acquisition targets of the major
Finally, the smallest group of companies is
comprised of exploration and development ventures, which focus
on finding economically-viable ore deposits through either
greenfield or brownfield exploration. These tend to be small,
highly risky ventures, created in hopes of creating a massive
payoff if a new economically-viable gold deposit is discovered.
Gold Mining Life Cycle
Gold mining and exploration is a time consuming, expensive,
and frequently risky endeavor. Exploration for new gold deposits
is often very difficult, given the metal's relative scarcity
and the often remote location of new gold deposits. Furthermore,
with many new deposits being found in developing countries,
political risk can also be an important consideration. Once
an economically viable deposit is discovered, bringing a mine
on line can take ten years or more, and entail massive capital
investment. However, the financial returns created by a successful
mine development project can be extremely high, and often
more than compensate for the risks and investment capital
The rough life-cycle of a gold mine is as follows:
Worldwide, gold mines produce about 2,600 tons of gold each
year, meaning that mining and exploration companies need to
discover an additional 2,600 tons of new gold just to keep
reserves even. Because of this, exploration is an important
(albeit risky) part of a mining company's operations. Interestingly,
as a result of low gold prices, gold exploration has languished
since peaking in 1997, signaling a gradual depletion of gold
reserves that may now be reversing.
Source: Metals Economics Group
As a result of lower exploration spending, fewer
large gold deposits have been discovered in recent years.
Given the rally in the price of gold since 2001 and the need
to replace current and future production, gold mining companies
and their investors are beginning to focus on exploration
activity once again. Most of the major gold companies have
increased gold exploration budgets in 2004 and indicated that
they plan on maintaining active exploration programs in 2005.
The Gold Exploration
The initial stages of gold exploration revolve around locating
ore bodies that have the potential to be economically
viable. Exploration is normally done by highly trained geologists
and geophysicists, and the overall ability of the geologists
associated with an exploration venture is a key factor in
determining its chances of success. Broadly speaking, there
are two categories of exploration, commonly referred to as
greenfield exploration, and brownfield exploration. Greenfield
exploration focuses on finding minerals in previously unexplored
areas or in areas where gold is not already known to exist.
In brownfield exploration, geologists look for deposits near
or adjacent to previously discovered deposits. They may also
assess previously explored areas, using more sophisticated
techniques than had been previously available. Generally speaking,
greenfield exploration is riskier and frequently more expensive
than brownfield exploration, although the discovery of an
entirely new, economically viable ore deposit can be very
lucrative. The benefit of brownfield exploration is that geologists
are able to use existing data, building upon it when necessary.
This is generally much cheaper, and, given that much brownfield
activity occurs near proven ore bodies, tends to be much more
While on-the-ground analysis still plays a big
part in the exploration process, much exploration is now done
via aircraft, particularly during the early stages. Geologists
frequently evaluate the physical properties of a potential
ore body using aircraft-borne remote sensing devices, which
allow them understand the magnetic, gravitational, and radioactivity
characteristics of a prospective ore body. By understanding
these characteristics, geologists can make more educated guesses
as to whether or not the geology of a specific locale is likely
to contain economically viable concentrations of gold.
Once a promising area is located, geologists
conduct ground-based seismic surveys, allowing them to develop
a "picture" of underground deposits. They also create
detailed geologic maps, allowing them to interpret the exposed
structures and the nature of the cover above potential ore
bodies. These and other techniques allow geologist to get
a preliminary picture of the structure of rocks in a given
area and determine whether they are likely to contain ore
If geologists determine that an area has potential
to produce economically viable ore, they take extensive samples
to determine in more detail the economic viability of a particular
site. Sampling is commonly done by drilling for rock samples
or, in some cases, digging trenches and examining surface
outcroppings. Types of drilling include rotary air blast,
aircore reverse circulation, and diamond drilling. Drill cores
are chemically sampled to determine the precise content and
distribution of minerals with the rock, allowing geologists
to determine if it will be economically feasible to develop
a mine. If so, they create a feasibility study, which estimates
the cost of developing a mine and the potential production
once the mine is built.
The Gold Mining Process
Once a company determines that a deposit is economically viable,
a mine must be developed at the site. Broadly speaking, there
are two major types of gold mines: open pit and underground.
Open pit mining, as the name suggests, employs large pits,
whereby the ore is removed by truck and processed to extract
the gold from it. The benefit of this type of mining is that
massive amounts of ore
can be processed quite inexpensively (on a per ton basis),
allowing mines to profitably operate while processing much
lower grades of ore. Underground mining techniques are employed
when the overburden is too thick to economically penetrate
with earth moving equipment. Here, miners dig shafts into
the ground to access the ore deposits. Not surprisingly, this
type of mining is more expensive and is generally associated
with higher-grade ore than open pit mining.
Once ore is extracted, miners treat it remove
the pure gold. The ore is crushed and milled to a powder fine
enough, which allows almost all of the gold to be extracted.
The gold is then dissolved into a cyanide-based solution,
from which it can be recovered through a number of processes,
including the addition of zinc to the solution or the technique
of carbon-in-pulp. Some open pit mines use a technique called
heap leaching to remove the metal from the ore. While less
efficient than traditional methods, heap leaching allows a
huge volume of ore to be processed at a very low cost. A more
recently developed method of extraction is called bio-leaching,
which uses bacteria to oxidize and break down the ore for
treatment. The ore is then smelted and sent to a refiner for
Factors Affecting the Price of Gold
Not surprisingly, the price of gold is a main
driver of gold mining share prices. Gold rallied strongly
through early 2004, peaking at U.S.$427/oz in April before
pulling back over the summer. In recent months, amid investor
concern over the strength of the dollar and softer-than-expected
economic growth, the metal has retraced it steps and is currently
trading at $422.50, up 3.9% in the last 12 months. We believe
the main drivers of the price of gold are: investor perception
of U.S. and global economic growth prospects, the strength
(or weakness) of the U.S. Dollar, the supply of gold available
for sale, and physical demand from consumers and investors.
Obviously, these factors are interrelated, making a simple
analysis difficult to complete.
U.S. Dollars: The Most Important Driver
of Gold Prices
Over the last four years, the price of gold
has shown a high inverse correlation with the value of the
U.S. Dollar. While not a perfect relationship (correlation
was not nearly as strong in the early 1990s, and the relationship
has seemingly decoupled in recent weeks), we believe that
investors view gold as a "safe haven" from dollar
weakness and that any expectations of a further decline in
the dollar will cause gold prices to strengthen.
Source: World Gold Council, FactSet
We note that the dollar's peak in July 2001
coincided closely with the cyclical bottoming of gold prices.
There are a number are a number of other economic
factors that we believe have a meaningful impact on the price
of gold. First, GDP growth continues to be a wildcard in regards
to gold prices. Slowing economic growth in the U.S. is likely
to be good for the price of gold, as investors look for safe-haven
investments. Further, we look at inflation, which is of course
tied to the value of a dollar. While inflation appears to
be under control, the risk remains that inflation will get
ahead of the Fed's efforts to control it through increasing
interest rates. Third, many investors feel that rising interest
rates would be bullish for the dollar by increasing the return
on dollar assets. While any Fed tightening is liable to provide
a short term boost to the dollar (and, by raising the return
of dollars versus gold, be negative for the price of gold),
this has historically been a weak indicator of dollar movements,
notably in the mid-1990's when Fed tightening led to a weaker
dollar and in 2001, when repeated cuts in the interest rate
let to a stronger dollar.
Real Interest Rates
Some market watchers believe that the real interest rates
(actual interest rates less inflation) are a better measure
of the effect of interest rate hikes on the U.S. Dollar than
the Fed funds rate (or longer-term rates) in isolation. We
generally measure real interest rates as the 90-day T-bill
less CPI. The chart below presents the rate history of real
interest rates, which remain at recent historical lows. Should
CPI growth (inflation) accelerate faster than interest rates
rise, it could be negative for the dollar and positive for
gold and other non-dollar assets.
Source: Bureau of Labor Statistics
The Current Account Deficit
Perhaps the major source of concern regarding the potential
for further weakening in the dollar is the United States'
record-high current account deficit. When looked at as a percentage
of GDP, the current account deficit is currently running at
what many economists believe to be unsustainably high levels.
Effectively, foreign investors are financing U.S. consumption,
by buying dollars and U.S. Treasury debt. Should foreigners
no longer choose to invest in U.S Dollar denominated assets,
or begin selling their dollar reserves, it would likely cause
a substantial further weakening in the dollar.
Source: St. Louis Fed Economic Data
Supply and Demand Fundamentals
As noted earlier, gold production has been relatively flat
over the last several years. As many larger mines have begun
to produce less, and with limited new production coming online
in the near future, it is likely that overall mine production
will continue to remain relatively stagnant over the next
few years. GFMS expects that mine supply will peak in 2005
at levels only slightly higher than those seen in 2004, and
then decline by approximately 30 tons per year through 2010,
or roughly 1.2% per year. While additional supply could come
into the market in the form of scrap gold sales, which may
be inspired by recently higher gold prices, we doubt these
sales would materially impact gold supply going forward. Recent
data suggests confirms this, suggesting that new scrap sales
are not yet a major contributing factor to supply growth.
Another piece of the supply puzzle in recent years has been
the unwinding of hedging strategies by major gold producers,
who sold gold forward in the declining price environment of
the late 1990's. As they unwound their hedge books over the
last few years, the additional supply from forward sales dried
up and actually became net demand over the past few years.
While de-hedging activity by major producers appears to be
slowing, it should continue to remain a source of demand,
not supply over the next few years. We discuss the effect
of de-hedging by gold producers later in this report.
On the demand side of the equation, jewelry
consumption has surged in 2004, as a function of a stronger
U.S. economy and economic growth in China and India in particular.
The World Gold Council reports that consumer demand for gold
rose 6% year-over-year in Q3'04, the third consecutive quarter
of increasing consumer demand. This was highlighted by 16%
growth in demand from Indian consumers, who seem to spend
a disproportionate percentage of their disposable income on
gold and gold jewelry.
The World Gold Council data in the table below
summarizes gold supply and demand trends over the last few
Source: World Gold Council, GFMS
A wildcard in the demand/supply equation is
the effect of central bank sales. According to GFMS, net gold
sales by central banks has accounted for approximately 13%
of the annual supply of gold over the last five years. It
is such an important piece of the global supply and demand
equation that the major central banks agreed in 1999 to limit
sales of gold reserves to no more than 400 tons per year in
the following five years. This agreement, known as the Central
Bank Gold Agreement (CBGA), was updated in early 2004 to allow
for sales of up to 500 tons per year. While initially a concern,
there is some question among gold investors regarding whether
the signatories of the agreement are interested in selling
the full allotment of 2,500 tons over five years, suggesting
the changes may put less pressure than expected on gold prices.
It remains to be seen whether policy changes will drive more
or less central bank selling going forward. We note, however,
that numerous countries are not party to the agreement, which
could cause the tons of gold sold by central banks to vary
even more year-to-year.
Investing in Precious
Traditionally, investors interested in profiting from increases
in the price of gold have been faced with few investment options.
The recently issued gold exchange traded fund (ETF) appears
to offer a way for investors to easily participate in gold
price movements, but the main vehicle for gold investing remains
gold mining stocks. However, it is important that investors
understand that the value of gold mining companies is dependent
on much more than just the price of gold. Gold mining companies
operate like any other business; they generate revenue (determined
by how much gold they sell and at what price), which is offset
by the cost of operating the business. As a result, the income
available to shareholders is subject to a number of variables
that need to be considered, and the value of the each company
can be basically unrelated to the value of the gold it produces.
In the following section, we outline a number
of these factors and discuss their importance to investors
interested in investing in gold mining securities. We also
discuss the special considerations affecting gold exploration
Production: How is revenue generated?
On the most basic level, the value of a gold company is driven
by how much gold it can pull from the ground. This is generally
measured by a company's resources and reserves. Appendix A
goes into more detail on the definition of resources and reserves,
but broadly speaking, resources represent the amount of gold
is in the ground without regard to whether it can be economically
mined, whereas reserves are gold that can at least theoretically
be economically produced at an assumed market price of gold.
Because of the importance of reserves
and resources to the value of a mining company, the calculation
of these statistics is highly regulated, and must be done
under the supervision of qualified geologists. Changes
in resources or reserves, such as when a company discovers
a major now ore system or adds to its estimate of an existing
ore body, can have a major impact on the value of a gold mining
company's share price.
Of course, gold must be mined before it can be sold and converted
to revenue. Therefore, the pace of extraction is also an important
determinant of the value of a gold mining firm. Because the
value of a mine is often estimated based on the net present
value (NPV) of estimated future cash flows, the pace of mining
will have a meaningful impact on that value. A mine with very
large reserves that are only slowly being mined may not be
as valuable as a smaller mine that producing gold at a very
high rate, all other things being equal. Gold companies can
increase their production either by using more efficient extraction
techniques, or by expanding existing mines and/or opening
new mines. However, as discussed below, the rate at which
a mining company extracts gold from the ground can also have
a negative effect on is share price, unless through exploration
it is able to at least hold proven and probable reserves steady.
The Critical Role of Reserve Replenishment
A critical point to understand when examining gold companies
is that, while by definition an individual mine has a finite
life, most gold companies are run as going concerns. This
means that they must continually replace reserves that they
pull from the ground. Gold producers can increase their reserves
in one of three ways: they can expand "known" deposits
at existing mine sites, find new gold deposits, or they can
buy discovered but un-mined deposits from other companies.
Regardless of how they do it, it is critical for a gold mining
company to replace what it takes out of the ground, or its
days as a going concern are sure to be limited.
Cost Structure: Mining
Gold is Not Cheap
Running a gold mining company is expensive, and the cost of
extracting gold from the ground is a critical input in the
process of establishing the value of a mine or mining company.
The standard measure for determining the cost structure of
a gold producer is known as "cash cost", and it
refers to the sum of production costs, royalties, marketing
and refining charges, and all administration expenses at the
operating level. Notably, it does not include previously capitalized
costs (i.e. depreciation expenses), which include the majority
of previous exploration expenses for most (but not all) companies.
Generally cash cost is expressed "cash spent per once
extracted." While cash costs can vary dramatically between
different mines and individual companies, major producers'
cash costs appear to have been running in the $225-$250 range
for quite some time now.
It is important to consider the variables the
make up cash cost in order to effectively analyze mining companies.
A main diver of cash costs are fuel costs (which were largely
responsible for driving cash costs up in 2004). Another factor
is the recovery rates, i.e. how effectively a company can
remove pure gold from ore. The higher the recovery rate, the
lower (generally) the cash cost per ounce. Related to this,
the ore grade (number of oz. gold per tone) will have a dramatic
effect on cash costs. Finally, the type of mining operation
needs to be considered, with open pit mines generally having
lower cash costs than underground mines. However, different
mine types have different sensitivities to various inputs.
For example, since open pit mines use incredibly large trucks
to haul ore, fuel costs tend to have more of an impact on
open pit operations than they do on underground endeavors.
Fluctuations in foreign currency exchange rates
are important as well. For companies with international mining
operations, local (foreign) currency appreciation has the
effect of increasing cash costs for that firm.
Hedging: A Double-Edged
To protect against fluctuations in the price of gold, many
producers hedge their production by selling gold forward at
a pre-determined price. It is important to understand the
effect of hedging on a gold mining company's stock. Generally,
the stock of a producer that is heavily hedged will be less
affected by changes in the spot price of gold, as the price
at which it sells its production is fixed well into the future.
While this is beneficial in an environment of falling gold
prices, it means that a hedged producer will not really experience
any near-term gains in revenue or profitability growth due
to increases in the price of gold. A good gauge of the extent
to which a company is "forward hedged" is a company's
average realized price per ounce of gold sold. As the average
price of gold rises, a heavily hedged producer will continue
to show a lower average realized price than an unhedged producer.
According to GFMS, the global hedge book of 60.4 million ounces
is equivalent to 75% of annual world gold mine production,
and the average realized price for major producers last year
was approximately $396/oz, significantly lower than the average
spot price of gold.
Hedging was particularly prevalent in the late
1990s, as an increasingly weak gold price made companies anxious
to lock-in the current price for future gold sales. As the
price of gold recovered over the last few years, many producers
began to unwind their forward sales positions by buying out
the contracts. The global hedge book, as calculated by GFMS,
declined by 17% year-over-year in Q3'04, evidencing a well
established de-hedging trend. It is important to not that
this activity added to the overall net demand for gold as
producers bought back supplies that they had previously sold
forward, likely lending some support to the price of gold.
Gold mining companies operate mines all over the world, and
are therefore subject to a wide range of regulations and laws,
and depending on the countries in which they operate, varying
degrees of political and legal risk. Many gold-rich nations
lack stable governments and well-developed legal processes,
making mining gold there a politically risky proposition.
Political risk-events can include expropriation, arbitrary
taxation, the actions of corrupt local politicians, and arbitrary
(and capricious) enforcement of local laws. Also, conflict
with local residents around a mine can be a major risk, as
illustrated by Newmont Mining's Yanacocha project in Peru,
which was severely disrupted this Fall over exploration drilling
related conflicts with locals. Because of these myriad risks
and, it is critical to understand the political context within
which a mine operates. This is particularly important with
small exploration companies, which, due to their small size
and low profile, officials may find easier to push around
than a major mining company. Many firms add well-connected
local business people or scientists to their board, in the
hopes of using those individuals' influence to mitigate political
Political risk is not just a consideration for
companies operating in developing countries. Developed nations
frequently have somewhat onerous environmental and other regulations
that can make the development of an otherwise feasible project
un-economic. Even with a functioning legal system, challenges
to a company's operations can take years to progress through
the courts, adversely affecting the value of a project to
a company and its investors.
for Investing in Exploration Stocks
Investing in gold exploration stocks is the riskiest form
of gold mining investment. Exploration companies generally
have negative operating cash flow, necessitating frequent
rounds of new investment in order to fund continued explorations.
Without known reserves or resources, these stocks do not lend
themselves to common (more quantitative) methods of valuation.
Exploration stocks tend to be a "binary" investment:
either the company finds gold and produces a (usually healthy)
return for investors, or it does not locate economically viable
resources, and the company stops operating as a going concern.
Still, given the potentially huge return on an investment
in a successful exploration venture, exploration stocks merit
attention from investors who are comfortable with the risks
they entail. In the absence of more traditional methods of
valuation, an investor should evaluate more qualitative factors
to determine if there is a meaningful chance that a company
will find "the big one."
We believe the most important factor to consider when evaluating
an exploration company is the quality of management. In analyzing
mining companies, we evaluate managements' experience in the
exploration industry, and their track record for discovering
gold deposits in the past. This is particularly relevant in
regards to the geology team members, who will need to make
important decisions regarding where to look for gold anomalies
and how to proceed with drilling. On the management side,
can the team attract continued investment to fund ongoing
exploration activities? Are they capable of negotiating agreements
with vendors and, if part of their strategy, larger producing
companies, to help bring a mine to development? Do they understand
and are they able to maneuver within the political and economic
environment in which the company's projects are located? These
factors are largely subjective, but are critical to the success
of an exploration venture. Gold exploration may seem to be
a game of chance, but the right management team can tilt the
odds in its (and your) favor.
For companies that already have an existing project portfolio,
it is important to understand the nature of each property
and its potential for becoming economically viable. We believe
there is a fine line between having too many and too few projects
under development. On one hand, a single-project-company's
success depends on its sole location containing an economically
viable ore body. While a single project benefits from having
managements' complete attention, in general, we are more comfortable
investing in companies with more than one significant project.
At the other end of the spectrum are companies with a large
number of projects, some of which may be un-developed at any
given time. While there is no magic number, we are generally
concerned when a company has too many projects. It can spread
management's time and valuable exploration resources too thin
to allow the firm to sufficiently develop any single opportunity.
On the whole, we think companies that can manage a reasonable
number of promising properties in various stages of development
constitute the most attractive investments, all other things
We also look closely at the geologic and geographic
setting of a company's projects. We are generally more excited
by projects located near existing mines or known ore bodies,
as this proximity tends to increase the chances of a experiencing
a successful discovery. True "greenfield" exploration
in areas where gold has not been discovered in the past, while
potentially viable, is far riskier in our view. Furthermore,
projects near existing mines are less likely to have serious
infrastructure issues, as it is likely at least some of the
necessary infrastructure has already been built. Also, with
regard to geology, it is important to understand the geologic
differences and similarities between a company's projects.
Generally, we would prefer that a company explore claims of
similar geology. It does not stretch the geologists' efforts
as thinly, and, while difficult to quantify, we believe that
lessons learned at one site can more readily be applied to
another area of similar geology. A possible exception to this
rule could be exploration for complementary minerals, such
as companies that have both platinum group mineral and gold
mining exploration projects. The benefit of project portfolios
of this type is that the exploration company is not totally
dependent on the price of a single commodity. However, if
a company has exploration projects pertaining to more than
one type of mineral, we would also attempt to ascertain whether
they have the scientific staff to effectively prospect for
From a geographic point of view, we believe
there is a little more room for latitude. A small exploration
company should probably not have projects scattered all over
the globe, as it would create a strain on resources, and would
mean that the company will have to contend with a wide range
of regulatory environments and cultural hurdles. We generally
prefer to see companies focus on a relatively contained area,
particularly those with operations in centered in developing
countries. A good example of this is St. Jude Resources, a
company that has focused its efforts on properties located
in West Africa. While its properties are actually located
in three countries, they are still relatively proximate to
each other, and the company seems able to manage the local
regulatory environments quite well.
However, when companies are unable to explore
a given region during certain times of the year, having geographies
with uncorrelated (or inversely correlated) weather conditions
can be a distinct benefit. For instance, many companies exploring
for gold in Canada are only able to explore for part of the
year, due to limited wintertime access. Many of these companies
also have properties in the U.S. or in Mexico, so they can
extend their exploration season to the full calendar year.
This makes good sense, not only because this allows them to
generate a steady stream of exploration results, but also
because it makes it easier to keep geologic teams together
if they can work year round.
In our view, significant insider ownership is one of the most
promising indicators of a healthy exploration company. Management
is close to the exploration process and clearly understands
how encouraging exploration results actually are, or what
the status of agreements with vendors and development partners
actually is. We also view management participation in follow-on
offerings as a sign of continued faith in the prospects of
an exploration company. We do not look at a "threshold"
level of management ownership, but we do place higher value
on larger ownership percentages. Also, we look for depth of
ownership among management - does the whole board and management
team hold significant shares, or are the shares concentrated
in the hands of a founder or one large owner? A strong board
and management team with significant share ownership is one
of the most positive signs that an exploration company is
healthy, in our view.
Evaluating exploration company stocks is a very
difficult prospect, much like that of evaluating any startup
business. We caution that exploration is inherently risky,
and although returns can often compensate for that risk, many
exploration companies never create any financial return for
their investors. We prefer a taking a portfolio approach,
investing in shares of several carefully selected companies,
rather than betting on just one or two projects or companies.
We feel that carefully analyzing candidate portfolio investments
can dramatically improve the odds that a portfolio of exploration
stocks will yield a good investment return.
Investing in gold mining stocks in general and gold exploration
stock in particular is inherently risky. However, the stage
appears to be set for gold mining stocks to outperform going
forward. The economic environment is not supportive of the
dollar, which should help keep the price of gold at current
levels, and demand fundamentals suggest further support for
gold prices. With consolidation continuing in the gold mining
sector and major players beginning to increase exploration
budgets, we believe high quality producers and top-caliber
exploration companies are undervalued, particularly with regard
to underlying commodity prices. Good opportunities exist for
investors willing to do their homework and accept the volatility
associated with mining and exploration stocks.
Appendix A: Resource & Reserve Definitions
A mineral resource is a concentration or occurrence of natural,
solid, inorganic, or fossilized organic material in or on
the Earth's crust in such form or quantity and of such grade
or quality that it has reasonable prospects for economic extraction.
The location, quantity, grade, geological characteristics,
and continuity of a mineral resource are known, estimated
or interpreted from specific geological evidence and knowledge.
Mineral resources are sub-divided, in order of increasing
geological confidence, into inferred, indicated, and measured
||Inferred Mineral Resource: that part
of a mineral resource for which quantity and grade, or
quality, can be estimated on the basis of geological evidence
and limited sampling; and reasonable assumed (but not
verified) geological and grade continuity. The estimate
is based on limited information and sampling gathered
through appropriate techniques from locations such as
outcrops, trenches, pits, workings, and drill holes.
Indicated Mineral Resource: an indicated mineral
resource is that part of a mineral resource for which
quantity, grade or quality, densities, and shape and
physical characteristics can be estimated with a level
of confidence sufficient to allow the evaluation of
the economic viability of the deposit. The estimate
is based on detailed and reliable exploration and testing
information gathered through appropriate techniques
from locations such as outcrops, trenches, pits, workings,
and drill holes that are spaced closely enough for geological
and grade continuity to be reasonably assumed.
Measured Mineral Resource: A measured mineral
resource is that part of a mineral resource for which
quantity, grade or quality, densities, shape and physical
characteristics are so well established that they can
be estimated with a confidence level sufficient to allow
the appropriate application of technical and economic
parameters, to support production planning and evaluation
of the economic viability of the deposit. The estimate
is based on detailed and reliable exploration, sampling
and testing information gathered through appropriate
techniques from locations such as outcrops, trenches,
pits, workings and drill holes that are spaced closely
enough to confirm both geological and grade continuity.
A mineral reserve is the economically mineable part of a measured
or indicated mineral resource demonstrated by at least a preliminary
feasibility study. This study must include adequate information
on mining, processing, metallurgical, economic, and other
relevant factors that demonstrate (at the time of reporting)
that economic extraction can be justified. A mineral reserve
includes diluting materials and allowances for losses that
may occur when the material is mined.
Probable Mineral Reserve:
A probable mineral reserve is the economically mineable part
of an indicated, and in some circumstances, a measured mineral
resource demonstrated by at least a preliminary feasibility
study. This study must include adequate information on mining,
processing, metallurgical, economic, and other relevant factors
that demonstrate, at the time of reporting, that economic
extraction can be justified.
Proven Mineral Reserve:
A proven mineral reserve is the economically mineable part
of a measured mineral resource demonstrated by at least a
preliminary feasibility study. This study must include adequate
information on mining, processing, metallurgical, economic,
and other relevant factors that demonstrate, at the time of
reporting, that economic extraction can be justified.
Source: Canadian Institute of
Mining, Metallurgy and Petroleum ("CIM") definitions
as defined in the CIM Standards on Mineral Resources and Reserves
- Definitions and Guidelines as required by National Instrument
43-101 of the Canadian Securities Administrators, Standards
of Disclosure for Mineral Projects. Taken from www.kinross.com
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