Tuesday, April 10, 2012

MineWeb: Lithium / Graphite complex a winning technology

We are following here International Lithium and Lomiko Metals among others in Lithium and Graphite junior mining sector. Today we have another piece on these strategic commodities from MinWeb to share with you. The recent news from China about furher consolidation of the Rare Earths industry control will put Lithium, Rare Earths and Graphite on the radar screens again. Pentagon is getting worried and is talking about stockpiling to secure the supply already.


Lithium/graphite complex a winning technology

George Ireland believes in seeing what he invests in. He and his team seek out companies with experienced management, promising geology, good infrastructure and strong cash flow. Gold Report interview.

Author: Brian Sylvester

Posted:  Tuesday , 10 Apr 2012

The Gold Report: Your grandfather was a mining engineer. Your father founded a coal company. You are a geologist, worked with Cliffs and ASARCO and are on the boards of several mining companies. How much of your success at Geologic Resource Partners do you attribute to your business acumen and how much to your relationships in the industry?

George Ireland: Having grown up in a mining-oriented family, the dinner table conversations from an early age steeped me in the lore and intrigue of business. Based on that early interest, I have built up quite a book of relationships and a broad knowledge over the years, but I attribute a lot of the opportunities that have come my way to hard work and perseverance in an industry that was, for quite a long time, out of favor.

TGR: What wisdom did you pick up at the dinner table that you use today?

GI: One of the first things I learned was to see for yourself what you are investing in and who you are investing with. The second-and I give this advice to companies that we invest in and to other fund managers-is to talk to your investors, to the people who are giving you their faith and money.

TGR: Does that mean you make regular site visits to projects?

GI: My team and I have visited about 80 countries over the last five years.

TGR: What are your "must-sees" on a site visit?

GI: Typically, we are looking at the lay of the land: how the project sits in the political jurisdiction, the social environment, the environmental issues. We look at management, from the senior level down into the junior ranks. We want to know if they are capable of performing the work they are being asked to do. We look at the assets themselves, reviewing public information found in various documents such as NI 43-101s. We look extensively at the drill cores, site and plan maps and other data to assess the quality of work being performed with regards to our own assessment of value of the company.

TGR: Do you expect your clients to meet a certain annual performance threshold?

GI: We do not have a specific threshold. Our orientation is toward compensation and performance over the long term.

TGR: Would it be fair to say that you look for at least double-digit growth?

GI: Very definitely. Given the expected risks in the mining industry, our investors look to us for rates of return comparable to other venture capital or private equity businesses. We believe it is important to note that the mineral exploration business, much like the pharmaceutical or tech business, can create substantial growth of value through exploration and discovery. Our general focus is to capture those areas of growth, rather than the commodity trends.

TGR: What is your time horizon?

GI: Our investment horizons typically stretch from two to five years. We focus on a firm's capabilities and ability to grow, not its latest drill or production results.

TGR: Are you concerned that equities have trailed the underlying commodity, especially in the precious metal side, for close to 18 months?

GI: The market trends are changing. We are now seeing the precious metal mining companies being valued using similar metrics to other mining companies, whereas historically they traded at a substantial premium. We believe this is both a natural evolution of the market and a direct result of the widespread acceptance of the metal exchange-traded funds (ETFs). On a smaller scale, we see a lot of opportunity in exploration and development companies. Fortunately for us and unfortunately for them, these companies are having trouble getting financed, which means we can pick and choose among the assets that interest us.

TGR: Are you paying more attention now to things like infrastructure?

GI: Infrastructure has always been a critical component of mining investment. Our approach always includes taking into account all the necessary factors for a mining situation to be developed. The infrastructure demands of a mining project and how they will be financed are always crucial factors in deciding to invest in any remote mining situation.

TGR: Are most of your positions private placements or do you buy positions in the market?

GI: We do both.

TGR: In terms of your private placements, how important is a warrant?

GI: Not critical, although we like warrants. We particularly like financings that are elegantly structured, meaning the warrants are tied to the company's financing needs rather than an unrelated timeframe.

For example, if a company is raising money for a drill program it expects to complete in 15 months, we like to see that the warrants are tied to the completion of that program so they can be used to fund the next stage of exploration and development.

A big problem for many junior companies is the potential dilution caused by a large number of warrants outstanding with no implicit or explicit linkage to the cash requirements of the company.

TGR: Can you give us an example of a recent private placement you did versus the market price for the company involved, without naming a specific company?

GI: Typically, private placement terms are on the higher end of the historic band for discounts, namely 10-15% off a recent weighted-average price, as opposed to 5-10%.

TGR: Are you looking for companies offering a dividend?

GI: Absolutely. As a long-term investment fund, our focus is on total return to our investors. That comes through both capital appreciation and dividends.

TGR: Does that mean you are looking beyond companies in the exploration and development stage and into mid-tier and top-tier producers?

GI: Yes, we invest in companies in all phases of the mining sector. We utilize our judgment to decide which companies are the most appealing based on projected risk-weighted rate of return. In practice, that means you would not expect the same returns in lower risk senior producers compared to higher risk explorers once you remove the issue of the movement of the underlying commodity price. As for capital reinvestment and dividends, it is logical to expect that smaller, more rapidly growing companies would be less likely to pay a dividend than their more senior competitors.

TGR: Has your asset base moved from companies with market caps less than $200 million to larger companies, given that more of them are offering dividends than they used to?

GI: For us, dividends by themselves are not a driver; they are part of the total return on a particular investment. What causes us to change the portfolio in one direction or another is where we see the best prospect for total return relative to the level of risk inherent to an investment. It all depends on our view of the potential return on an individual company, not a particular segment of the business.

TGR: What are your strategies for playing ETFs?

GI: Our strategy for metal and metal stock ETFs is to look at relative return in the metal versus the equities.

For example, we hold platinum and palladium ETFs because we like the outlook for the metal, but we do not like the outlook for most of the companies, particularly those operating in Southern Africa and Russia.

TGR: Without naming companies, what have you seen on site visits that made you decide not to invest?

GI: Our site review process has uncovered everything from operational issues related to the geology or the quality of the drilling to engineering challenges associated with site layout or metallurgy. There may be infrastructure issues related to access to the project or, more importantly, shipping routes away from the project. Political and economic issues in the region or country can also come up. And finally, site visits allow us a better chance to see the quality of management in their "home" as opposed to being in a nice office or boardroom.

TGR: Brent Cook has suggested that there are too few people properly trained in preliminary economic assessments (PEA) and prefeasibility studies (PFS), leaving untrained people to plug numbers into models that cannot be relied on to predict whether a project can be mined. If you agree, what are some common errors retail investors should look for that might raise a red flag?

GI: We are deeply committed to doing onsite due diligence as we want to be able to make our own assessments of the numbers being used in the PEAs or PFSs being prepared. That said, it is important for retail (and institutional) investors to read and understand these documents for what they are: namely, preliminary estimates. If I had to characterize the most common area for error at this stage, it would be the assessment of the geology of the deposit and how it relates to the calculation of resources and reserves.

Concurrently, the investor needs to understand how the economic numbers were calculated, particularly such things as metallurgical recoveries and costs such as the cost of electricity, fuel, labor and metals prices.

Investors need to understand the upside case, and more importantly, the downside case.

TGR: What are some of the common problems you see on site visits?

GI: One general theme is the lack of trained staff and labor, ranging from engineers and geologists to skilled operators and trades people. This continues to be a big problem worldwide.

The second would be the uncertainty associated with legal title and the project investment climate. This includes the tax rates or ownership structures being imposed by host countries.

The third is the temptation to use advanced technology where it is not completely understood or is being misapplied. Too often, this leads to failure or poor performance.

TGR: Once financed and in production a lot of mines fail to meet production targets. A management change soon follows. Is this a result of some of those factors?

GI: Very much so. It is the combination of, first, the expectations of the original group not being met and, second, not having the depth of experience to understand and correct for all the variables. It is no surprise to see issues come forward that were not anticipated in the feasibility studies. An axiom that one of my analyst partners loves to use is "there has never been a failed mine without a positive feasibility study."

TGR: In South Africa, calls to nationalize more of the mining industry are growing. Why?

GI: South Africa is not alone. It seems that 80-90% of the countries around the world want more of the patrimony to be shared with the government and the citizens.

The history and economic ramifications of apartheid influenced the move for local ownership in South Africa. There also are labor/management conflicts over wages and profit sharing. We believe the South African political outlook has declined substantially over the last five years.

However, South Africa is not alone. In 2010, the Australian government sought a very large tax increase on the mining sector. The U.S. Environmental Protection Agency has taken actions relative to the coal industry.

TGR: What are your investment themes for non-precious metals equities?

GI: One of our major themes is in what we call "green metals," metals that will benefit from the environmental issues associated with global warming and climate change. An example is the lithium/graphite complex. We fundamentally believe in the green metal theme and have decided that the lithium/graphite complex will be a winning technology.

If you believe market penetration for electric vehicles will be in the 3-4% range over the next 5-10 years, graphite prices will have a lot of upside. If you believe in market penetration rates of 10-15%, graphite prices will have to be that much higher in order to bring out the amount of material needed.

TGR: As an institutional investor, can you offer any wisdom to retail investors wondering if they should stay in the mining equity space?

GI: The generic advice to any investor in any business is to know what you are investing in. Know whom you are investing with. Do your homework.

Structure your investments appropriately relative to your risk profile. That is essential for institutional or individual investors in this high-risk, potentially high-return sector.

TGR: George, thank you for your time and your insights.

George Ireland founded Geologic Resource Partners LLC in 2004 and serves as its chief investment officer and managing member. He serves as portfolio manager of the associated Geologic Resource Funds and has been president of GRI Holdings LLC since June 2000. Ireland has 30 years of experience in all aspects of the resource sector, ranging from field geology to banking and venture capital.
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