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Robert Martin's Precious Mettle A Ghost of a (Second) ChanceRobert Martin I am smiling. I will never forget reading, back in the late 90's, about some lucky guy who invested all his savings in shares of a little-known gold company named Bre-X. Now before you jump to the conclusion that I am about to tell you a horror story, think again. If memory serves, this fellow was retiring at age 37 on the $35,000,000 he made selling his Bre-X stock. As I recall, he started buying at 80 cents a share and sold out at $210. Now granted, there were a lot more horror stories than happy ones associated with that infamous scandal, but not for this lucky dog. While it lasted, Bre-X was a dream come true. But in 1997 the dream turned to nightmare. At first touted as the gold mine of the century, it was later revealed that Bre-X's Busang mine in Indonesia had been methodically salted. Instead of the 71 million ounces of gold that were claimed to be present, in truth, the mine hosted about as much gold as can be found in the dental work of your average Indonesian ditch digger. That sad news was punctuated by the inspiring suicide of Bre-X's chief geologist, something to do with stepping out of a helicopter before it landed... way before. As might be expected, the Bre-X share price went through a gentle correction, from a high of around $280 to, well, basically zero. And by the time the dust and geologist had finally settled, a pall had been cast over the entire gold mining industry, and a curse had descended upon every junior gold enterprise struggling to make an honest buck. So what's my point? My point is that there were consequences to this greatest-of-all-gold-mining-scandals, consequences which reverberate throughout the gold mining industry to this very day. And they are worthy of note, because they teach us lessons that are useful as we face the future. The most immediate consequence of the Bre-X bust was to help drive the already pitiful price of gold down to its ultimate 20-year cycle bottom. By June 20th, 1999, an ounce of gold could be had for a mere $252.80. Things had gotten so bad that as a geologist friend wrote to tell me, "I knew it was the bottom-of-the-bottom of the gold market the day that Mike Fitzsimonds [CEO of Golden Phoenix Minerals - GPXM] bought the old Drinkwater Mine [now called Mineral Ridge] for a quarter million bucks." Actually, it wasn't a quarter million. To be precise, Fitzsimonds shelled out $225,000 to buy an established mine containing $60,000,000 worth of extractable gold. Let's try to put that singular event into perspective. At a cost of $1.03 per ounce of proven reserve, Golden Phoenix took title to a 2,600-acre Nevada gold mine which
Fitzsimonds' purchase of the Mineral Ridge Mine at a 99.3% discount to the previous owner's invested capital was indicative of the disfavor into which all gold mines had fallen by then. Thanks to the Ghost of Bre-X, which had swept through the American West like the headless horseman of Sleepy Hollow, gold had become the goblin no one wanted. Very spooky. So spooky, in fact, that the powers-that-be decided something had to be done to prevent the Ghost of Bre-X from ever riding again. In the hopes of protecting future investors from fraud, an international effort to crack down on lenient reporting standards was mounted by regulatory authorities, worldwide. Their goal was to agree upon common definitions for the geological terminology that companies would use to describe their mineral bodies. This makes a lot of sense. It levels the playing field by allowing investors to compare companies on an apples-to-apples basis. It also assures that claims to metal resources are fairly measured and uniformly reported. Which is, of course, why the SEC, in its infinite wisdom, refuses to cooperate. While Australia, Britain, South Africa and Canada have been working to standardize various definitions of "resource," here in the United States our SEC is opposed to recognizing the concept of "resource" as a definitional term. It pursues its own set of terminology in the name of consumer protection. The lesson for investors to keep in mind is this: When comparing a US-traded mining enterprise with, say, a Canadian one, the terms "inferred resource" "indicated resource" and "measured resource" will have different economic meanings depending on where you are. These differences become particularly irksome when a company trades simultaneously on both a US and foreign exchange, or operates mines in both countries at the same time. How do company CFOs reconcile two different ways of defining an ore body when these differences can have a sizable impact on the company's valuation? It's a conflict that has yet to be resolved. So if you plan to invest knowledgeably, you owe it to yourself to get the lingo straight. You might start here, http://www.jorc.org/pdf/rendu2.pdf, to study up on the different terminology. But be warned, it's pretty dry stuff. And in case you find it all a bit confusing, no worries. For thanks to the draconian punishments ordained by the Sarbanes-Oxley Act of 2002, you can rest easy knowing that the average American mining CEO faces lengthy prison terms and massive fines for failing to make sense of it on your behalf. The result is a growing bias towards conservative (often TOO conservative) estimation of a US mine's mineralization. Which is why buying US mining stocks may have an extra cushion of safety built in. In my opinion, it is also why America, as a whole, is being regulated into the dustbin of history. Every cloud must have a golden lining, and the Ghost of Bre-X is no exception. Our headless horseman rode so far and kicked up so much dust that, to this day, a great many unseasoned investors shudder at the thought of speculating in gold. To these people a gold mine is just another hole in the ground surrounded by liars. The fear of Bre-X-style skullduggery coupled to "that barbaric relic" which pays no interest (kind of like Amazon pays no dividends?) is simply too much for any Kudlow-fearing techno-buffs to stomach. And so the Ghost of Bre-X rides on, spreading doubt and loathing in the hearts of gentle investors everywhere. And that is why I'm smiling. While changes in the rules and laws governing gold mining companies are reducing investment risk, the unwashed masses continue to spurn the yellow metal. It is said that a secular bull market must climb a wall of worry. And by the look of things, there's plenty of worry to last for years to come. So those of us who stand ready and eager to buy a bit 'o gold on each pullback, or snap up junior and senior mining shares during every lull, have been granted a ghost of a chance - a second chance, really - to quietly accumulate all that we can. Here's to the Ghost of Bre-X. "Hi-Ho Silver," ...uh, better make that "Hi-Ho Gold. Away!" Robert Martin Disclaimer: |
