KIM Report

Background

Chile is probably the world’s #1 supplier of copper (~35%) through the state-owned entity Codelco and various foreign producers. The geology of the Andes lends itself to large-scale porphyry deposits rich in copper as well as gold, molybdenum, silver, rhenium and other metals. Such a huge drop in the prices of these commodities (with the possible exception of gold) has done serious damage to the Chilean economy. With copper exports representing such a huge portion of its GDP (US$37.6 billion, or 56% of total exports in 2007), Chile’s trade surplus for 2008 will appear puny indeed.

Gold vs. Copper

As with most base metals the price of copper has experienced a huge drop from about US$4.00/lb. in July to $1.29/lb. this Monday. This drop has caused any company that has copper as a significant component of its production to suffer serious revenue decreases. Good examples of these are VALE-INCO (NYSE-RIO) (although nickel and iron are to blame here as well) and Yamana Gold Inc. (TSX-YRI, NYSE-AUY, LSE-YAU). Yamana itself is an interesting case as although it is touted as a gold producer, a significant source of its revenue is from copper (e.g. Chapada, Brazil). This has caused Yamana to see a slower rise in share price than other more gold-oriented companies, such as Kinross (TSX-K).

Challenges for a Small-Cap Company

However, large companies have the obvious ability to weather these low metal prices and Yamana stock has still seen a rise from ~CA$5/share to just below $10/share in the past month, mainly due to interest in gold. It is the small-cap companies that have the most to worry about in the short term when metal prices slide. One such company in Chile that is feeling the pressure is Cu-Mo tailings processor Amerigo Resources. Things have changed for Amerigo since the last KIM Report article in April 2008, copper and molybdenum prices have tanked and most producers are happy if they are currently breaking even. At the time of that article, Amerigo was struggling with high energy costs due to a very dry season at the time as most electricity in Chile is hydroelectric in nature combined with high fuel costs. Now fuel costs are down, Chilean electricity is cheaper due to more precipitation, and electric generators running on cheap bunker oil have been installed at their facility near the Codelco-run El Teniente mine (from which they obtain the tailings for processing). Unfortunately, the timing of these energy-savings coincides with the drop in metal prices. Amerigo recently released news that it had incurred negative price settlements for sales of copper and molybdenum to smelter companies Enami and Molymet, respectively.

The Upside

The good news is that Amerigo believes it can reduce its production costs before royalties (which are tied to copper price) to $1.20-1.25/lb. The company has recently managed to partially defer energy, royalty (paid to Codelco), and negative copper price settlements. It is in the process of negotiating deferral for the negative molybdenum payments as well. Enami, a state owned entity, has an established mandate to support small to medium copper producers through price protection. How this will affect Amerigo has not been determined. Amerigo has also extended its banking line to US$5.6 million and has opened a new line with a second bank for $5 million. Negotiations are also occurring to open new long-term credit facilities of $10-20 million. On the shareholder end, management has enacted a shareholder rights plan – in essence a poison pill to dissuade any opportunistic takeovers.

Caveat Emptor

The real issue here is if Amerigo will maintain its CA$0.065 semi-annual dividend due this spring. Many shareholders considered a ~6% return to be excellent last spring when the price was around CA$2.25/share. Now with the share price at ~$0.35/share, this ~20% dividend is either an amazing opportunity, or indicative of extreme risk. Given the unclear forecast for metal prices, it appears to be anybody’s game. Amerigo’s future good financial health depends on its continuing good relations with its creditors and smelters.

Disclaimer: The author holds 500 shares of ARG and 200 shares of YRI. This article is based on the experience and opinions of the author. Please do your own due diligence when investing.

Stayin’ Alive: Canadian junior keeps Argentine operations afloat.

Posted by David

The current lack of credit in today’s world markets has left companies scrambling for cash. Mineral mining and exploration companies in particular are finding it hard to keep liquid and to have enough cash on hand to continue operations. As these companies have no income they were previously reliant on raising funds through private placements. This is no longer practical as the vast majority of juniors have extremely depressed share prices and severe dilution becomes a concern. Financing through credit institutions is also a no-go as many of these have become insolvent themselves and those that remain in business have become rather tight-fisted.

Juniors have had to resort to less common methods to raise cash. These include selling shares in assets that they have developed. Bringing in another junior or even senior partner to carry some or all of the costs of exploration for a project is a common tactic. Marifil Mines Ltd. is one such junior with these cash woes.

Marifil’s current cash position is just less than C$100,000, although a rapid reduction in expenses has reduced the burn rate to below $50,000/month. Management has voluntarily reduced salaries by 50%, staff involved with secondary projects have been cut, and the Argentina office is moving to a cheaper location. John Hite, president of the company, has commented that more than $200,000 is due within the next few months in property payments from other projects such as the spin-off of the K-2 potash property to Oxbow Holdings Corp. A $500,000 private placement is also in progress. What is of primary interest is the announcement of a letter of intent (LOI) between Marifil and Yamana Gold Inc (TSX-YRI, NYSE-AUY) that states Yamana’s intention to acquire 51% of Marifil’s Pedernal gold property in San Juan province, Argentina. This is on the condition that Yamana invest at least $2,490,000 into exploration on the property over five years and pay Marifil $510,000. The agreement would also allow Yamana to increase its share to 70% if a pre-feasibility study were provided within thirty months after the five-year period. Yamana now has less than ninety days to complete its due diligence with regards to the property and the agreement.

Pedernal is a “sediment-hosted Carlin-type gold deposit” and shares geological similarities with Yamana’s Gualcamayo property, 250 km to the north in the same rock group. There is a strong silica and barite association with the gold. San Juan is one of the more mining-friendly provinces in Argentina (think of it as Argentina’s Quebec in this regard) and is host to the 13 million oz. Veladero and 18 million oz. Pascua Llama deposits (Barrick). Marifil’s Amarillo is the other project located in San Juan, and was a joint venture with ATW Venture Corp. until this year when ATW decided to forfeit their share in order to focus on their Australian property.

Marifil’s business model of selling or joint venturing all their properties is similar to that of Franco-Nevada. They have numerous precious metals, base metals, exotic metals, limestone, petroleum, and potash projects, and they would rather allow diversity to be their strength, rather than focussing on a single project. The LOI is reflective of this strategy. However, lack of funds has meant that the company has had to restrict its operations to its most promising properties: K-2 (potash) and San Roque (Au-Ag-Pb-Zn-In).

Cost-cutting and actively seeking partners will allow Marifil to continue to operate for the next few quarters, and longer if this LOI goes through. Hopefully by then markets will be giving juniors a break.

Disclaimer: The author holds 1000 shares of MFM and 200 shares of YRI. This article is based on the opinions and experience of the author. Please do your own due diligence when investing.