(This company is not worth shorting unless its share price were a lot higher.)
Canadian Zinc’s flagship property is the Prairie Creek property. It used to be a mine that opened in 1982 and shut down the year after. It must have been a horribly uneconomic mine to have shut down so fast. Fast forward to today. CZN is trying to raise capital as it needs at least $234M to build a mine on the property (probably more).
The deposit itself has very high grades but there is a major flaw with it: the mineralization is between 0.5m and 5m wide. Because the deposit is so thin, it will be very expensive to mine it. It is anticipated that the company will use cut and fill mining, which is one of the most expensive forms of underground mining. As well, mining will be labour intensive as only small mining machines can be used. This means that mechanization can’t be used fully to lower labour costs. To make things worse, most costs will be much higher (e.g. labour, electricity) because the deposit is remotely located.
Major red flags
The latest technical report (filed Aug 9 2012 on SEDAR) has a number of extremely dubious price assumptions:
Economic Analysis An economic analysis with a +/ – 10% sensitivity factor centering on the Base Case outlines the average annual EBITDA, NPV, IRR payback period and are shown on a pre-tax and pre-finance basis in Table 6 . The base case shows a Pre-tax Net Present Value, using an 8% discount, of $ 253 M, with an internal rate of return of 40.4 % and payback period of three years. Metals prices used were US$1.20 /lb in the short term and US$1.00 /lb in the long term for both lead and zinc, and US$28.0 /oz in the short term and US$26.0 /oz in the long term for silver.
This is not a reasonable assumption since neither lead nor zinc has stayed at $1.20/lb in the past few years. The authors of the technical report should have stuck with the industry standard (*what should be the industry standard) and used the trailing 3-year average.
Similarly, the report makes another inappropriate assumption in determining the cut-off grade:
The results from the AMC review and reclassification are shown in the tables below. Table 14. 8 shows a summary of the Mineral Resource at a cut off of 8 .0 % Zn equivalent (Zn Eq) for all zones . This cut off is based on costs, recoveries and payable product used in the Mineral Reserves and uses an elevated zinc price of $1.30 /lb. All these values are shown as notes in Table 14.8. With the deposit being relatively high value moving the cut off grade makes little difference at these levels, other than for the lower grade Stockwork Zone.
There is no legitimate reason to use an elevated zinc price. This is very sloppy work designed to inflate the size of the resource.
Other bad signs
The company is spending exploration dollars on something other than its flagship project (South Tally Pond, which is less promising). This is not a good idea because the company will need a huge amount of capital to build a mine at their flagship project. They should conserve what capital they have because they don’t have enough to it. Spending money elsewhere suggests that the company’s flagship project is uneconomic and that insiders are looking to divert investors’ attention.
Secondly, the company has not released a feasibility study on the project. The problem with PFSs (pre-feasibility studies) is that regulations surrounding them are pretty weak. Authors can make many unreasonable and ill-informed assumptions to inflate the project’s economics. A feasibility study is held to a higher standard (though there are many engineers willing to publish inflated feasibility studies). If the company is serious about raising >$234M to build a mine, a feasibility study would be a good idea.
I’d avoid this stock. I don’t think that it’s a compelling short because the valuation is not extreme and there is no catalyst. I’d much rather be shorting Canada Lithium than this company.
*Disclosure: No position. Short 200 shares of CLQ, which is an insignificant position (there often isn’t stock to borrow either).