Ellis Martin and David Morgan Discuss Junior Silver Mining Companies
Source: SilverInvestor.com (8/27/09)
". . .the best question you can ask management is, 'How much cash do you have in the treasury and what's your burn rate?' This again applies to the junior mining sector, though the principles certainly apply to any size business. How long can you stay in business if things don't pick up soon?"
My indicator when buying a silver stock is getting to know the people that run the company, perhaps looking at the properties, the fundamentals, the chart, and then plugging in intuitively which may or may not be the best way to do it. What are some of your indicators before selecting a company and a stock for investment purposes?
David Morgan: Well, I'm going to suppose that we are talking about the junior mining areas, because in the senior mining area you can look at the balance sheet and income statement and make a fairly good determination of a company's value. As far as junior miners, and explorers as well, what you said isn't far off. There isn't any way to know in a lot of these situations whether a company is going to make a discovery. Some of it is intuition. It is always best in my view to start out with as many facts as possible. At times you can get a feel for the management if they've done something worthwhile in the exploration or small mining sector before.
It certainly gives you confidence if the management of the stock you are interested in has found a good mining property in the past. You also want to look at what their cash flow is and what their cash balance is. In other words, some of these companies—as good as some of them are, with some pretty good projects—will probably not continue, because they might have half a million dollars in the bank and their burn rate might be two hundred thousand a month, and obviously within three months they're going to be broke. Unless they can finance. And this has been very difficult, although recently things have loosened up somewhat.
I said in a recent Morgan Report the best question you can ask management is, "How much cash do you have in the treasury and what's your burn rate?" This again applies to the junior mining sector, although the principles certainly apply to any size business. How long can you stay in business if things don't pick up soon?
Another key is to know that the project that they have or the property that they have has potential. That's a real tough call. Normally, on any of the juniors that we put into The Morgan Report, we have somebody on the project. That doesn't guarantee it's going to be a good one but it certainly can get rid of ones that don't have merit. So, you might have a project that looks pretty good on paper, but once you get down and walk the project you can see what warts it has, meaning how the terrain might lend itself to the overall project. Let's say it has fairly decent drill results already, but because it's in an area that is so difficult to access, the infrastructure costs of advancing this prospect into a mining situation are so extraordinarily expensive that the economics just don't work out.
These are things you really can't sit at a desk and put in a computer model and say, "This project is going to be profitable once silver hits 15." Sure, there are people who try to do that. And I have nothing against mathematical tools; I love them, I use them, but there's nothing like walking a project for a company to get a real flavor for what the potential really is. Yet, in fact, I don't do it on every project. Someone who does research with me, for me, alongside me goes to some of these projects. Even doing all of that doesn't guarantee anything, but it certainly can get rid of situations that again might look good on paper but in reality are not.
Mr. Martin: Well, if that infrastructure isn't there and the roads are not workable and you can't move enough ore out quick enough in any given day for instance, it doesn't matter what grade of silver, gold, or copper you have; you may not necessarily have a viable business where you have positive cash flow, especially with a high burn rate and a small bank account.
Mr. Morgan: That's precisely right, and I'll give you a real quick example. This major mining company has mines all over the world. Primarily they wanted to be a silver company although it's basically half gold and half silver. They mine almost as much gold on a cost basis as silver. They have a mine in the southern tip of Argentina that is extremely rich.
The cutoff grade for this project is very high. I don't remember what it is but for talking purposes let's call it seven ounces the ton. Which at 7 times 14, you're looking at $98.00-an-ounce rock; that's pretty hefty dollars per ton. And in the right location that would be very economic, but this mine is so far out, the transportation costs are so great, that the cutoff grade is high.
I want to make the point that grade is king, but even grade as king doesn't necessarily guarantee a profit. We can do a coin example real quickly. Let's say you have pure silver bullion on the moon. You don't even have to refine it. It's .9995 and there's 25 million ounces of it. Is it worth going up there to get it and bring it back? Is it economic? The answer is of course not. I know it's a corny example. I'm trying to get people to think. I'm trying to point out all of the factors that go into analyzing a mining company that are not really apparent to your average investor. Most of these small companies are what I call story stocks. They've got a great promoter who tells them the story. The story is sexy. It sounds good. It really is enticing. It's a great conversation piece at lunch or at the cocktail party or at the golf course. But most of them just end up being stories.
Mr. Martin: So they're never going to go into production and that's why they haven't in the two to five years that they've been around.
Mr. Morgan: Well it takes usually at least five years to get a company into production. That's after feasibility study and everything else that goes with it. So a lot of these companies are probably well meaning but they turn out to be nothing more than promotions. I don't like saying that but that's the eventual reality.
However, this is tricky! I know of one instance where a company basically went in with an attitude to fleece the mining investor and ended up making a great discovery and made lots of money for themselves and the investors, although that was not their original intent. And there have been others that have been as sincere as can be and don't come out with anything and basically lose all the money that they've acquired from the investing public. So it's a real tough call. Even if you know who the good or bad guys are, to really know what's going to happen is still a bit of a guess, because no one knows . . . when you're looking for something underneath the ground, anything can happen.
Mr. Martin: But the geologist basically is the person I tend to like to hang out with as well to get the truth about what is going on in the ground. Unless they are promoters, they are pretty much going to be truthful with you, especially if they have a great reputation. Do you speak with a lot of geologists in your travels?
Mr. Morgan: Oh absolutely. I always speak with the geologist on the project, especially if I'm doing a mining tour or the analyst tour. What I'm interested in is a geologist who is independent; I talk to two or three of them and ask them about the district or whatever. Most geologists are there to find something—that's why they're on the project—and they have to use some imagination on what kind of a deposit could be under the ground. They drill holes they try to make a model and when they model these things, they normally do it on a best-efforts basis, but they are looking at an optimistic perspective most of the time, and you've got to remember that when you're thinking this through.
If you have enough good drill results to get to a feasibility study, you're going to have to have drilled that thing like Swiss cheese in some cases and then you're going to have to get a bank to look it over with their analysts and say, "You know what? This thing does make sense, let's put in a bunch more money and let a mining engineer figure out what's economic here and what isn't." In other words, a lot of money goes into holes in the ground before that thing ever becomes a producing mine. And even doing that, sometimes they fail. That's rare but it does happen. So it's a tough, tough business as well as a very exciting business. There are very few "investments" that you can make (and I used quotation marks because really they're speculations) where you can put in a few dollars and come out making a lot of dollars. The problem is you have so many to choose from. There are more than 4,000 of them and most of them never materialize. The odds are probably 2,000 to 1 that something you buy actually becomes a mining project. So a tough game, an exciting game, one in which I teach to "bet a little to win a lot." These are situations where you know you want to put in a small amount of money and if it hits it's going to make you a significant amount of money. But you don't want to put a significant amount of money into a junior mining company, in my opinion anyway.
You should never spend any money that you are going to need. So that's a warning and a very sincere one for you and anyone else. If you do have some risk capital, is now a good time to get into the junior mining sector? I'd say yes but have a long-term perspective, because I think we're going to be in a wide trading range through the summer. You want to really do your research carefully and you want to buy a select handful of junior mining prospects.
Mr. Martin: Thank you, David, for this interview on the theopportunityshow.com. I'm Ellis Martin, executive producer. David Morgan of The Morgan Report is one of the most preeminent experts in silver, gold, and precious metals. He hosts a subscription-based Web site, silver-investor.com. David is also an author, having penned the book Get the Skinny on Silver Investing, available on amazon.com. He's a teacher, lecturer, world traveler, and once again we are pleased to have him here on The Opportunity Show. David, thanks for joining us today.