Nowadays when I look at a stock, I ask myself:
- If the company was legitimate, what would it be doing?
- If the company was a scam, what would it be doing?
Suppose that the company is saying that their deposit will turn into a mine. They may have already performed a preliminary economic assessment (PEA) or pre-feasibility study (PFS).
Companies with real deposits
If the deposit is economic, the junior should be hoarding its cash so that it can finance its mine. The cost of the mine should be stated in a feasibility study. The ideal mine usually costs hundreds of millions of dollars. The junior miner’s challenge is in raising such a huge amount of money. It can be difficult to get a mine financed, especially if you have to compete with super promotional juniors that claim that their project has better economics than yours.
Some companies will raise financing for a mine without a feasibility-level study. This is not something an honest management team would do. A feasibility study (in theory anyways) is done to a higher level of accuracy than a PEA or PFS. It is a stepping stone in advancing the project. Legitimate management teams will not skip it. In an ideal world, investors would raise money for a feasibility study first. If the study’s result is positive, then they would figure out how to finance the mine.
What would fraudsters do?
Many management teams inflate the economics of their flagship deposit. There are different approaches as to what to do next:
- Build the mine anyways. Unfortunately, this happens a lot.
- Don’t build the mine instead of wasting the money. The management team can try to take the company into a different direction and “hopefully” generate more hype and excitement to raise even more money.
- Sell itself to another mining company. Let the buyer figure it out.
I think that it is a major red flag for a management team to try to take a company in a new direction. They are probably doing this because they know that the original project is not economic.
On the other hand, there may be legitimate reasons as to why a management team might be trying to steer the company into a new direction. Many of the part-time CEOs in the mining sector don’t have relevant mining experience. Perhaps investors should not have entrusted their money to people with shallow backgrounds. I think that investors should only give money to (full-time) CEOs who have a track record in developing at least one profitable mine. In any case, I suppose it is possible that the CEO and the engineers who advise him or her are not that bright. However, this strikes me as unlikely.
My investing mistakes
If you read my earlier posts on mining, you will see that it took me a very long time to figure this out.