Mining Shorts Roundup

Here’s what I would looking at shorting among mining stocks.  Currently, the two stocks I am most interested in shorting are UUUU ($105M market cap) and NG ($1.08B market cap).

An explanation of my ranking system

The most important characteristics of a short are:

  1. Quality.
  2. Price.
  3. The borrow.
  4. A catalyst.

My tier rankings below only consider quality.  An example of the lowest-quality stock would be anything that shows up in your email system’s spam folder.  Pump and dump penny stocks promoted via email are generally complete scams.  They would be tier 1 shorts.  I almost never research such stocks because I could never figure out how to make money shorting them.

Price is obviously important.  Because stock prices fluctuate, I don’t want to tie my ranking system to price.  By the time you read this blog post, stock prices may have changed dramatically.

The situation with the borrow fluctuates so I also don’t tie my rankings to it.  Obviously you should come to your own conclusions as to what the cost of the borrow is, the margin impact, the chance of a future buy-in, availability of the borrow, etc. etc.

Most shorts don’t have clear-cut catalysts.  CMEDY/Q had a clear-cut catalyst (defaulted bonds pushing the company into bankruptcy).  Some of the crowded iron ore royalty shorts have clear catalysts as the royalty payments will terminate on a certain date.  In general, I rarely talk about catalysts because very few shorts have them.

What determines quality?

  1. The assets.
  2. Management.

A stock promoter like Robert Friedland will likely destroy shareholder value.  However, sometimes these stock promoters will stumble across a huge mineral discovery like Voisey’s Bay.  I would characterize most mining stocks as scams attached to real businesses.  While the part-time CEOs enrich themselves at shareholders’ expense, most of the time there is a real business involved.  You actually have to analyze that real business.

The lowest quality companies don’t have much of a real business involved.  Or, management intentionally allows value destruction to occur (e.g. build a highly uneconomic mine or to continue to mine unprofitably) because they are trying to mine investors.

Rankings

Tier 1

Metanor Resources (previous writeup) – While I think that this stock will likely go to 0, I covered my short because I don’t like shorting companies with very low market caps.  The borrow is expensive (due to the way Interactive Brokers calculates the interest) and the short position sucks up a lot of margin because the share price is several pennies.

Tier 2

LODE – Apparently somebody on VIC thinks that this stock is a good long.  In the last three quarters, loss from operations was $7.9M.  Even adding back $5.1M in depreciation and amortization, the adjusted loss would be $2.8M.  This looks like the kind of cash flow negative miner that I like to short.  I have nothing positive to say about this company’s management.

AMNL – $69M market cap stock traded on the OTC BB.  This is a science project company that is trying to develop a market for halloysite clay.  The company has not made a GAAP profit in a decade.

Because LODE and AMNL are beaten down stocks trading near 52-week lows, I am not that interested in shorting them.  I also do not like shorting OTC BB stocks (e.g. AMNL) and companies with less than $100M in market capitalization (e.g. AMNL, LODE).

NUS.TO – I’ve written about Nautilus Minerals briefly in Dec 2013.  Since then, the share price has roughly doubled while the borrow remains very expensive.  My opinion is that Nautilus’s science project (seafloor mining) will not be remotely economic.  It is likely that I will never short this company because the borrow is so expensive (the effective rate is over 40%).

Tier 3

NG – See previous writeup.  The company’s most promising deposit is the Donlin Creek project.  NovaGold’s joint venture partner Barrick Gold does not want to invest in Donlin.  In hindsight, we know that Barrick greenlit many gold projects with poor economics (e.g. Pascua Lama).  If Barrick passed on Donlin Creek, this it is likely the case that Donlin Creek is even worse than Pascua Lama.  Since Barrick announced its intention to not pursue Donlin project (July 2012), the price of gold has fallen from roughly $1600 to the current spot price of around $1200.  If Donlin wasn’t profitable at $1600 gold, it is likely even more uneconomic at $1200 gold.  If Donlin is optimistically worth $300M, then the company’s intrisic value would be roughly close to the company’s book value of $430M.  The $1.0B market cap is a few times book value.  I think that Donlin’s value is worth somewhere from $0-300M and closer to the lower end of that range.

GPL – See previous writeup and my brief comments from July 2014.

UUUU – So far, Energy Fuels has had negative cash flow from its mine operations.  However, there is a chance that the mine economics improve as production ramps up fully.  If it does turn out that the mine is consistently cash flow negative, then this will be an excellent short.  Energy Fuels is currently in the process of acquiring Uranerz, which also has negative cash flow.  The borrow on UUUU is 3.3% while the borrow on URZ is 32.5%; this suggests to me that URZ is even more flawed than Energy Fuels.  It is likely the case that both companies are bad.

EXN.TO – This company’s flagship deposit has extremely high grades.  Unfortunately, this deposit is flawed because the veins of ore are extremely narrow.  This impairs the economics of the mine.  In hindsight, management may have built a mine that would have been uneconomic at the prevailing prices when the decision was made.  The mine did create GAAP profits and positive cash flow in 2011-2 due as the price of silver surged.  Now that silver prices have crashed, it does not look like this mine will be profitable.  However, this mine is not hopeless given its profitability in 2011-2012.

NGQ.TO – NGex has a flagship deposit that it wants to turn into a mine.  The company announced a preliminary economic assessment (PEA) stating that the project would have an after-tax internal rate of return (IRR) of 9.4% (press release).  A PEA does not have to have the same level of accuracy as a feasibility study.  One way to abuse the NI 43-101 system is to release a PEA without releasing a feasibility study.  If you believe that the PEA is overly optimistic, then it does not look like this mine is economic.  Personally, I would have no problem betting that 95%+ of the technical reports out there are overly optimistic.  The IKN blog (succinct and worth reading) has some brief analysis of the company.

GUY.TO – This is mostly the same idea as NGex, though the company’s IRR numbers are a little higher.  The company has been trying to finance its mine for several years without success in an environment where gold prices were much higher than today’s price.  There has been significant turnover in the CEO position.  (If you are the part-time CEO of a company with a deposit that will turn into a mine, you should not voluntarily leave.  Turning a deposit into a mine would give the part-time CEO significant credibility for future stock promotions.  This is why CEO churn is a minor red flag to me.)  Because Guyana has very little infrastructure, it is possible that the company’s estimates of its infrastructure costs in its estimates are overly optimistic.
EDIT (10/13/2015): I goofed on Guyana.

Tier 4

PVG – I’ve written about Pretium many times on this blog.  See my posts tagged with the company.

TRQ – See my previous post on Turquoise Hill.  The mine looks like it is very close to breakeven on a cash flow basis (excluding depreciation and amortization from the sunk costs of building out the cost).  It is possible/likely that the mine will occasionally throw out positive cash flow, depending on commodity prices.

What I’m actually shorting

I am not currently shorting any of these companies because I needed to free up margin.  At current market prices, I would be most interested in UUUU and NG especially if they were closer to their 52-week highs.

In Interactive Broker’s software, I have alarms setup to alert me if these stocks reach prices where I would be interested in shorting them.  If for example Metanor Resources reaches 16-25+ cents/share, I would be interested in shorting it.

Links

My current thinking on mining stocks (Dec 2013) – This post lays out how I think about mining stocks.

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3 thoughts on “Mining Shorts Roundup

  1. Hey Glenn have you looked at Banro gold by any chance. Production numbers for 2015 seems to be highly cash flow positive but it’s trading very low. Not sure if value trap or not. Let me know what you think given your knowledge in mining companies.

  2. Pingback: A recap of ideas on this blog – Glenn Chan's Random Notes on Investing

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