An enviable finance vehicle available only in Canada allows junior miners to "flow-through" their exploration expenses to their Canadian investors. In return, investors enjoy significant tax breaks and ownership in resource stocks. This week, The Gold Report caught up with Ronald J. Wortel, MBA, P.Eng., E.V.P. of mining investments for MineralFields Group, an industry leader in such investments. In this exclusive interview, Ron explains the prospects and profits borne of these mutually beneficial financing arrangements.
The Gold Report: Ron, can you give us an overview of flow-through financing, and when and why do companies use flow-through financing? How does this compare to traditional forms of financing?
Ronald Wortel: Flow-through financing, which is unique to Canada and has been around for decades, allows junior resource companies exploring in Canada to attract financing to fund exploration. Without the assistance that the government provides through the tax system, these junior companies would find it virtually impossible to attract financing, as they typically generate no income. The whole reason to support such companies is to raise, and keep raising, exploration funds, and to keep spending until they find something.
The flow-through system allows these junior companies to pass on or "flow through" their exploration expenses incurred in Canada to Canadian investors, and Canadian investors can in turn use these expenses to offset their income and, hence, lower their income taxes. So it is great win-win: the mining companies get their exploration financing, so that they can survive and hopefully prosper, and the investor gets a legitimate tax break and ownership in resource stocks, which will hopefully appreciate in value, or depreciate in value less than the amount of the tax break.
While investors could purchase flow-through shares in individual mining companies, by far most investors purchase limited partnership units from companies like MineralFields who specialize in selecting mining companies. As a result, the investors achieve a diversified portfolio.
TGR: What differentiates MineralFields from other flow-through financing companies?
RW: MineralFields is unique among flow-through financing companies for many reasons. We have a five-level due diligence team that consists of two senior mining analysts, a senior technical analyst, an excellent portfolio manager, a strategic partnership with Canada’s largest independent geological and engineering consulting company, and a full-time in-house lawyer. No other organization has anything close to this, and it has allowed MineralFields group to have the best-performing flow-through in 2005, 2006, and so far in 2008 (the 2007 series has not dissolved yet). In fact, one of our limited partnerships doubled in value in a mere six months, and we wound it up early and returned money to the investors way ahead of schedule.
An investor in this series who invested $100,000 got back close to $200,000 and enjoyed a $60,000 tax break. The tax breaks offered by MineralFields are the highest in the industry: virtually all flow-through funds offer a 100% tax deduction. But only MineralFields insures that 100% of the money it invests with mining companies also yields a minimum 15% tax credit—a big added tax break. The net result is that MineralFields investors enjoy a 120% to 148% overall tax break on their MineralFields investment (depending on their province of residence; MineralFields is available all year throughout every province and territory of Canada).
TGR: How long has MineralFields been involved in flow-through financing?
RW: MineralFields was created in 2002, so we are in our 8th year now.
TGR: What criteria do you look for in a company before structuring a financing?
RW: In the midst of this global economic crisis, there is no shortage of investment opportunities out there, and we have the luxury of selecting those that provide considerable upside through the discovery phase. While there are exceptions, we are leaning toward companies in areas that are road-accessible and near existing, or planned, power sources. Of course, proximity to operating mines is a bonus. Companies that have controlling interest in their mineral properties are going to have an easier time than those that must fulfill onerous cash/share payments and work commitments at a time when equity financing is so challenging.
We value companies with which we share an exploration philosophy that demonstrates adherence to NI-43-101 guidelines and a respect for the environment and native issues. A company’s share structure is also very important, as we seek to avoid companies that are too diluted and, thus, likely to rollback or consolidate their shares in the near future.
While many companies are fast-tracking to small-scale production as a means to generate some much-needed cash and avoid stock dilution, we think this may be shortsighted. We are generally reluctant to support such projects in the absence of compliant resources and feasibility studies, as the added risks are not in keeping with our investment principles.
Companies with marginal projects won’t qualify for funding from MineralFields. A junior explorer needs a project with robust grades and potential for sufficient resources to ensure a reasonably long mine life.
TGR: Can you explain the value for Canadian citizens of flow-through financing from a tax standpoint?
RW: First, any flow-through investment results in a 100% Canadian exploration expense ("CEE") tax deduction. As mentioned previously, MineralFields insures that 100% of the money it invests with mining companies also yields a minimum 15% tax credit—a big added tax break; this is for "grassroots" mining exploration, and the federal government gives an additional tax break. Certain provinces (namely, B.C., Quebec, Ontario, Manitoba and Saskatchewan) also give their own additional tax credit for grassroots exploration. The net result is that MineralFields investors enjoy a 120% to 148% overall tax break on their MineralFields investment (depending on their province of residence; MineralFields is available all year throughout every province and territory of Canada).
TGR: Are there tax-advantaged vehicles like "flow-through financing" available in the United States?
RW: No, not yet. Other countries, such as the U.S., Chile, Australia and South Africa, have long admired Canada’s flow-through regime, but none has created its own program, which benefits Canada.
TGR: Are most Canadians aware of the advantages of purchasing flow-through shares?
RW: No, in fact, MineralFields is at the forefront of educating more Canadians about flow-through. Prior to MineralFields, flow-through limited partnerships were only offered by prospectus through IIROC (formerly IDA) investment dealers. MineralFields pioneered the concept of exempt market offering memorandums, which are offered by mutual fund dealers and life insurance agents. In fact, I believe MineralFields has the most content-rich website in the flow-through industry, and investors should educate themselves there.
TGR: Can Canadian investors become involved in flow-through shares throughout the year, or only in certain windows?
RW: MineralFields is available to investors all year, but most or all of our competitors only offer flow-through during certain times of the year (typically during the spring and late in the year).
TGR: Can you share with us some junior mining companies that you feel represent a compelling investment for resource investors today? What makes these companies compelling?
RW: Canadian gold exploration and development companies are the current focus for investments in the fund. This is related to the significant appreciation of the gold price in Canadian dollar terms, making in-the-ground resources more valuable.
Our top pick in this group is Clifton Star Resources Inc. (TSX.V:CFO). It currently trades at $2.50 with a market cap of over C$57 million. We recently released a research report on Clifton Star* through our associated company, First Canadian Securities, with a Speculative Buy recommendation and a C$5.35 12-month price target.
Clifton Star’s gold projects are located in Quebec, along the Destor-Porcupine Fault Zone. This area also hosts the Timmins Gold camp where 65 million ounces were produced and production continues. The company controls a large land position covering over 10km of this structure favorable for gold deposits. Current compliant resources on two projects stand at over 1.4 million ounces. Drilling over the past year is expected to double this resource value in new 43-101 reports expected in Q2/09. The projects are well located, approximately 35km north of the Rouyn-Noranda mining centre with excellent infrastructure for exploration, future development and year-round access. The company is well funded with over $8 million in the bank, which enables it to continue exploration plans and expand resources. Posting a compliant resource number in the 3-million ounce range for projects in mining-friendly Quebec should attract investment attention to CFO.
Roxmark Mines Ltd. (TSX.V:RMK) (PK SHEETS:RMKMF) is another junior gold exploration and development company operating in a historic mining camp. The company’s current market cap is approximately $10.6 million. We recently released a research report on Roxmark* through our associated company, First Canadian Securities; the report is not rated.
Roxmark's projects are located in the Beardmore—Geraldton gold camp in NW Ontario. This camp is a past producer of over 4 million ounces. There is no production today, but Roxmark holds the only permitted mill in the region at its Northern Empire Mine. We believe this asset could be the catalyst for the start-up of new production in this camp. Roxmark controls a significant land position in this camp, covering well over 10km of strike length of the favorable geology in the Beardmore area. The 100%-held patent claims include three mines with over 1 million ounces of past production. There remains a significant compliant and historic resource at these mines that could be upgrades and developed in this buoyant gold market.
In the Geraldton part of the camp, Roxmark is in joint venture with Premier Gold Mines Ltd. (TSX:PG) for the exploration and development of its projects. Roxmark holds a 30% carried interest in these projects that include another six past-producing mines and, again, well over 10km of strike length of the favorable geology. Premier is the operator of these projects and is undertaking an aggressive exploration program to develop ounces for near-term production. We see significant value to Roxmark in this land package and relationship.
Rocmec Mining Inc. (TSX.V:RMI) (PK SHEETS:RCCMF) is a junior gold producer operating in Quebec. Their Rocmec 1 project is located along the Cadillac Break, host to the Kirkland Lake and Abitibi gold camps with over 55 million ounces in historic and continuing gold production. The project covers over 1.5km of strike length along the favorable geology and contains a compliant resource of over 550,000 ounces of gold. The company recently announced that the onsite mill is producing at its capacity of 75 tons per day. This production rate could see 15,000 ounces of gold from this project annually. At current gold prices of C$1,150 per ounce and cash costs less than C$400 per ounce, the mine should generate substantial revenues for the company.
Rocmec is also generating cash flow from the use of its narrow vein mining technology. The company is using this technology at its Rocmec 1 project. It is also providing mining services to Great Basin Gold Ltd. (TSX:GBG) (NYSE.AMEX:GBG) at its Hollister project in Nevada. Here Rocmec provides the equipment, men and training to access gold contained in veins that are too narrow to be mined economically using conventional methods. The success of the operations at Rocmec 1 and Hollister are encouraging many other mining companies to look at the company’s mining technology. The company recently announced a new services contract with Fresnillo PLC (LSE:FRES), part of the Penoles Group (MX:PE&OLES). Fresnillo is the world’s largest primary silver producer and Mexico’s second largest gold producer. Rocmec Mining will provide its thermal fragmentation mining method to develop numerous precious metal bearing veins located within the La Ciénega mine located in the state of Durango, Mexico. We expect Rocmec to announce additional mining service contracts as they continue to show successful and economic extraction of narrow vein deposits. A good resource base, gold production and cash flow from contracts all make Rocmec look like a good investment in the junior gold market.
Ronald J. Wortel, MBA, P.Eng., joined MineralFields associated financial intermediary in the Toronto office as the Executive Vice President for Mining Investments in June 2006. He joined MineralFields after two and a half years with Northern Securities as their senior mining and metals analyst. There he provided equity research on 22 junior and intermediate TSX-listed mining companies.
Mr. Wortel was one of the first mining analysts to focus exclusively on the large and underserviced Canadian junior mining market. His coverage of this sector includes over 60 names in the past 9 years. This period includes work with Levesque Beaubien Geoffrion (now National Bank Financial), Dundee Securities, eResearch and Northern Securities. The coverage list includes companies involved in almost all the mining sectors: gold; PGMs; base metals; and diamonds, with both explorers and producers.
Ron is a professional engineer (1989) with a geological engineering degree from the University of Waterloo (1987) and an MBA from the Ivey School of Business and the Rotterdam School of Management (1996). He worked in the consulting engineering sector with Golder Associates for seven years prior to entering the financial services sector. His work with Golder included consulting to many senior and junior mining companies. Ron is a member of the Mining Research Analysts Group, CIM and the PDAC.
*Research reports on Clifton Star Resources Inc. (TSX.V:CFO) and Roxmark Mines Limited (TSX.V:RMK) available at First Canadian Securities.
Disclaimer: The MineralFields and Pathway Asset Management Group of Funds own shares in all three stocks mentioned above. As well, MineralFields and Pathway Asset Management Group of Funds hold a control position in Clifton Star Resources Inc. Ron Wortel holds a position in both Clifton Star Resources Inc. and Rocmec Mining Inc. The information contained in this interview is not intended to constitute individual investment advice and is not designed to meet your personal financial situation. The opinions expressed in this interview are Mr. Wortel’s and are subject to change without notice. The information in this interview may become outdated and there is no obligation to update any such information.
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