Huge prizes for miners

Ceri Jones
10.09.08

Mining is always high risk/high return, but never more so than in emerging nations such as Venezuela and the Democratic Republic of Congo, which boast vast, undeveloped mineral deposits that rank with the best in the world, but where political uncertainty has put mining stocks on a huge discount to peers in stable, Western jurisdictions.

These governments continue to re-examine licensing agreements amid growing shareholder fears of state appropriation, which are justified on grounds of national interest and environmental concerns. Mining stocks in these regions therefore tend to trade at significant discounts to the net value of their businesses, compared for instance with the more typical two-times asset value applicable to gold miners in developed countries such as Canada's Agnico Eagle (AEM) - listed in New York.

In Venezuela, socialist president Hugo Chavez is nationalising sections of the economy and the government has cancelled mining

licenses for three large gold concessions in the Imataca Forest, an 8.6m acre reserve rich in gold, diamonds, iron, and bauxite. Companies that own title to the concessions include Rusoro Mining and Canadian miners Gold Reserve and Crystallex International.

Crystallex has appealed against a decision in May to deny it a permit for its Las Cristinas open pit gold mine in Imataca Forest, which could yield an astonishing 17 million ounces of gold. The shares recovered some ground in late August on the news that the Venezuelan environment ministry is satisfied with the modifications put forward to the permit application. The level of renewed optimism is difficult to square, however, with environmental minister Yubiri Ortega's recent speeches condemning open pit mining in the region.

Adjoining Las Cristinas is Gold Reserve's Las Brisas field, whose permit has also been rescinded, and which recently rejected an approach from Rusoro based on two of its shares for every one of Gold Reserve's. Rusoro's Russian management believes a consolidation of its assets and abilities with those of Gold Reserve could potentially foster development of the Las Brisas deposits - an estimated 9.2 million ounces of gold and 1.2 billion pounds of copper.

Rusoro believes its Russian links forge a special relationship with the Venezuelan government. Critical mass also helps, and it already owns the Choco 10 mine, acquired in an equity and cash deal with Gold Fields, which is on track to produce 120,000 ounces in 2008 - a figure that could double in three years, and Idaho-based Hecla Mining's Venezuelan subsidiaries, which are subject to government scrutiny over a labour dispute at the underground Isidora gold mine outside the Imataca Forest.

Rusoro recently received an $80 million cash infusion from a group of institutions that include Peter Hambro Mining (POG). The loan is exchangeable for shares of Rusoro at C$1.25 per share at any time until 4 June 2010. Additionally, Peter Hambro has the right to acquire these shares from the other members of the loan syndicate at C$2.20 per share. Clearly Rusoro is expected to move higher.

Too good an opportunity to miss

Ultimately, the prizes will be huge. As demand boosts the metal's price, exploiting these opportunities will eventually become irresistible. Yet the share prices of all three mining groups are languishing at rock-bottom levels, with Rusoro's share price punished almost as badly despite its undoubted advantages.

In future, enormous supplies of gold and copper will also be sourced from the Democratic Republic of Congo, a major producer of industrial metals before its infrastructure was ravaged by years of misrule by dictator Mobuto Seke Soko and the 1998-2003 conflict. The first Democratic government in four decades has spent the last year reviewing its mining contracts, a process that should be finished by the end of the month.

The review covers over 60 contracts including those involving big names such as the New York-listed trio of Freeport-McMoRan (FCX.N), AnglogoldAshanti (AU) and OM Group (OMG), as well as BHP Billiton (BLT) and Central African Mining & Exploration Company (CFM). Contracts that are not approved will be renegotiable, possibly on terms that cede greater ownership to Congo's state-owned miner Gecamines.

Freeport is the majority owner of the Tenke Fungurume copper and cobalt project, scheduled to begin production in 2009-10. Gecamines and the state itself already own small stakes, while Freeport owns 58% and New York-listed Lundin Mining (LMC) 25%, but Gecamines could snaffle as much as 45% of the project.

Miners in the Congo with relatively undeveloped world class reserves include Moto GoldMines (MOE), the Perth-based group with operations in the Ituri Province in the northeast, and Banro, a Canadian-based gold exploration company with four wholly-owned properties along a major gold belt. Moto has recently made some progress in its licensing agreements, while Banro's licences were awarded under the current regime and so should not be as hazardous as earlier license awards.

Moto recently raised $55 million cash, while last week Banro filed a preliminary short-form prospectus, offering of $35 million of units. Both stocks are cheaper even than their peers and with this funding should be equipped to stay the course.

"There is a huge disconnect between the prices of shares in these regions and their potential value," says Andrew Pullar, a portfolio manager at the natural resources investment boutique Baker Steel. "As soon as the uncertainty lifts, shares will bounce, but calling the timing is not easy. The industry hopes that the position in the Congo will be clarified before the end of the year but that was the hope last year also."

Many investors will remember Ecuadorian start-up Aurelian, which had been sitting on a cool 14 million ounces of gold when, in April, it was decimated by a government ban on all mining exploration while new mining regulations were worked up.

In July, the company sold out to New York-listed Kinross Gold (KGC) in an all shares offer worth about $770 million. Many shareholders felt the mine had been undersold and voiced their dismay on forums such as YouTube, but founder Patrick Anderson claimed they were politically naive.