Sunday, October 21, 2012

Resource Companies Print Shares Like Bernanke!

In a post the other day I put up a competition after charting some data which I found particularly interesting (guess the mystery chart). The competition was won by euphoria who guessed correctly that it was Gold Anomaly Limited shares issued (with Beer Holiday deserving special mention for initially guessing what it was, but not the company).

Here is the chart again:

Following the IPO, the first quarterly (Q4, 2002) showed the number of shares on issue as 20,590,454 and following a recent 2:3 rights issue this number now stands 182 times higher at 3,745,558,220. To put this in perspective if you'd owned a stake of 1,000,000 shares in the company in late 2002, you owned 4.85% of the company, if you hadn't bought any since and simply held this parcel over the 10 years you would own 0.0267% of the company today. You would have paid 25c each for your shares ($250,000 total) and today they are trading at less than a cent (closed Friday at .004, though have traded lower) and your 1,000,000 shares are now worth $4,000.

Here is a weekly chart of the share price over the last decade:

Unfortunately GOA's story is not an uncommon one in the small cap exploration and mining sector. 

Many exploration companies have struggled to issue capital since the GFC and are preyed upon by financiers which ultimately destroy value for shareholders by issuing new capital well below the current share price.
Juniors have been making big mistakes too

This failure to read the gold market extends across the junior sector too. From 2001 to 2007, it was easy to raise money. Exploration companies would issue shares, raise capital, go out and drill, hopefully declare something half decent, then go and raise some more money at a higher price.

Then we got the credit crunch, and funding dried up. Yet so many companies are still trying to follow this broken business model. They have been decimated this year. The only ones that have done well in 2011 are those that have mined metal at a low price, and sold it at a higher one. It really isn’t rocket science. That’s what gold miners are supposed to do. But often they don’t.

I have long railed about this. The gold price is high, and the credit markets are dead. Gold won’t be this high forever – so mine the easy-to-get stuff and sell it while you can. Forget expanding the resource, or doing anything else – just get mining. This market isn’t interested in blue-sky stuff – it isn’t interested in dreams, it wants hard cash. Money Week
Some of these junior companies make promises of self funding future expansion through start-up of small scale Gold production (something GOA has been suggesting there is the potential for since 2009 or earlier), however there have been many speculators/investors (including yours truly) burned by such empty promises.

It's not only explorers which can be hit by these problems. Even producers with high cash costs (cash cost may be below spot price, but administration, development and exploration costs soak up profit and require the company to continue raising capital) can experience similar issues. Apex Minerals (AXM) is a marginal Gold producer that comes to mind and has been hit hard over recent years. Trading well over $1 in 2008 they fell to less than 1c and then earlier this year had a 100:1 consolidation following which the share price continued to fall. Such consolidations often hide the true extent to which a company has been allowed to print shares in order to continue trading.
Hedge fund boss John Paulson has often made the conventional wisdom case for owning gold shares - that mining companies enjoy superior leverage to gold prices, perhaps rising as much as 2-3 times as much as the gold price. As noted recently in the Wall Street Journal, he’s backed up his thesis with big slugs of gold equities.

Color us skeptical.

We mean no disrespect to the likes of Paulson. But the case for equity leverage to gold is diminishing and will continue to do so until mining company executives and their bankers stop the addiction to deal-making. Until then, non-insider investors in precious metal equities will continue to bear the brunt of the penchant for financial engineering that is based on a permissive attitude to the stock register.

We’re not naive about the temptations and opportunities for stuffing scrip down the market’s throat. When you own a money printing press you tend to use it, especially when your performance is incentivized primarily through near-term movements in stock prices.

Yet who cannot be galled to hear precious metal miners cooing and tut-tutting about profligate central bankers and leveraged sovereigns even as they issue stock at rates to make even Ben Bernanke blush, make high risk bets on the far distant future, and spend more on fees and commissions than dividends. Mine Fund
At times I've heard from various readers (either through comments on the blog and forums, emails or in person) that they miss the stock profiles that I have written in the past, but this has come from an inclination to move more of my capital from stocks into physical. With less capital available for stocks this has meant less time allocated to research and keeping up to date with progress of mining companies. While I do still keep an eye on those companies I hold in my Super, the mismanagement of many junior companies balance sheets and capital structure over the last 12-24 months in particular has kept me wary of re-entering this sector with any significant positions.

I'm not saying that there aren't exceptions. There are exceptional junior exploration companies who have managed their finances and capital structure, some of them covered on this blog in the past, such as Cobar Consolidated who raised capital above the share price on multiple occasions & Royalco Resources who have a unique royalty focus which allows them to avoid dilution and even pay shareholders a good dividend. It's not an easy process to pick the right mining companies and even when you have the right company you might be holding at the wrong time or hold them for too long.

The good thing about holding physical is that while it's not without its risks, you have a much greater level of control over that risk (for example you can secure your physical in a safety deposit box facility). Holding physical you are not at the mercy of central bankers or resource companies (who can evidently be as bad, if not worse) who can print their scrip at will.

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