Virginia Mines: Misunderstood Opportunity

04/18/2014 10:00 am EST

Focus: COMMODITIES

Adrian Day

Chairman and CEO, Adrian Day Asset Management

Resource expert Adrian Day, editor of The Global Analyst, highlights the reasoning behind his bullishness on gold in general, and a misunderstood Canadian gold exploration firm, in specific.

Steve Halpern: Joining us today is Adrian Day, editor of The Global Analyst. How are you doing today, Adrian?

Adrian Day: I’m fine, thanks, Steven. How are you?

Steve Halpern: Very good. Thank you for joining us. Today we’re going to discuss your outlook for gold and then take a deeper look into one of your favorite gold stocks. First off, would you share your outlook for gold in general and perhaps highlight some of the fundamentals behind that longer term outlook.

Adrian Day: Okay, well, I’m positive on gold for this year. I think...a couple of things. First of all, after you’ve had the kind of decline that we saw in gold, which really went on for two and a half years, it would foolhardy to expect gold to bounce back.

So, I think we’re going to see a, sort of, fairly uneven and, at times, slow recovery. I definitely think we’ve seen the bottom for gold and I’m positive. What are the reasons for that?

I think, the way I would put it is that, all of the factors that really hurt gold last year are no longer present, so, for example, we had a lot of ETF selling of gold at the beginning of the year, but also, throughout the year, as people rotated from the commodities into the stock market.

I don’t think you’re going to see that again and at the very, very minimum, you’re not going to see the same quantity.

You’re not going to see 800 tonnes of gold leave the ETFs this year. That’s virtually impossible—not quite, but virtually—so, you know, with the stock market looking a little more unstable now than it did, say, a year ago, you’re beginning to see some of the money flow back into ETFs; just small amounts, but you’re beginning to see the inflows in the right direction.

You know, India, there was a slight decline in Indian buying last year, because of new restrictions that were put on. There were restrictions put on gold importation and there was also a tax put on gold purchases.

That had an effect, frankly—not as great as many people thought it would, but, you know, there’s a lot of detail to talk about there, but not as great as people thought—but we’re not going to see that again, I don’t think.

Whatever impact there’s been has been, and, in fact, the prospective new prime minister Modi, who’s a Hindu nationalist, has talked about lifting the restrictions or easing the restrictions as a way of placating his Hindu rural base, and so, I think, if anything, you’ll see an easing in the restrictions and the imports will go up.

So I think, you know, most of the reasons that gold fell last year are now over with and, you know, I think gold’s decline is overdone, frankly.

Steve Halpern: Okay, now let’s look at one of your favorite miners, which is a stock you followed for many years. It’s called Virginia Mines (TSX:VGQ) and it’s a Canadian mining firm. Can you tell us a little about the background of this company?

Adrian Day: Yeah, basically, Virginia is actually an exploration company, but they explore in a low-risk manner, which was in, what’s called, the prospect generator model.

They would look for prospects; they would generate prospects and then farm those prospects out to other companies, either juniors that wanted something interesting or senior companies that were in the area, and they would farm out these projects to other companies who then spent the money, and, in return, the company earned 50% of the property.

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It’s a very low-risk way of exploring, because it means that the junior company is not using its balance sheets the whole time and that’s really the problem with exploration. Because there’s no revenue, companies are always having to raise money and diluting the shareholders.

Now, Virginia has been very successful. It’s at a very good exploration sort of program over the years, but, or what, nine years ago now—it discovered a mine, basically, which is called the Eleonore. They sold that to Goldcorp (GG) and Goldcorp is completing construction of the mine.

It starts this year, but here’s the key. When Virginia sold the mine, they retained a royalty on that production and that is why Virginia did so well last year when most of the other gold stocks fell, and not just fell a little.

The average gold stock last year was down over 50%. That’s the seniors and juniors and Virginia was actually up, so it was up because of this royalty was coming on stream at the end of the year.

Steve Halpern: Now, the stock had a fairly significant pullback in recent months and you’ve suggested that this decline has been based on a misunderstanding by the investing community. Could you expand on that?

Adrian Day: Yeah, I will, and I’ll try to keep it sort of simple, or basic, should we say. The stock has declined. It ran all the way up over $14 and now it’s 11.70, a little under $12. It’s basically back to where it started the year, so not a disaster, but back to where it started the year.

Here’s the issue; Goldcorp published a technical report on this mine called Eleonore; Goldcorp published a report. Now under the conditions of the Toronto Stock Exchange, these technical reports have to be based on what’s called the 43-101 and based essentially only on proven reserves and not on total resource.

As most of your readers will know, companies often publish a resource; it can be an inferred resource; you have different categories of resources. But then to take a resource to reserve—a reserve is basically something that’s deemed economic at today’s price—you have to improve your confidence in that resource.

This means you have to do a lot more drilling. Instead of say, 50 meter space drills or 100 meter space drills, you have to do 20, 25 metered spacing drills, so you have to do a lot more drilling.

The point is that companies have varying degrees of confidence in their resources, and a company like Goldcorp, which is a respectable, established company, you know, they have a fairly good idea of what they’re going to get out of their resource.

But for the 43-101, for the technical report, they could only use their reserves. They have 4 million ounces of reserve, they have another 4.1 million of resource, but this technical report was based on only 4 million ounces.

And so, a lot of people thought, “My gosh, the mine is suddenly cut in half. This is not the mine we thought it was.” And it’s based purely on a misunderstanding of what you can include in that technical report.

Steve Halpern: Now that this pullback has occurred, based in part on this report, would you now be more comfortable recommending that investors, who may not have positions in the stock, consider buying?

Adrian Day: Yeah, absolutely. Under $12, I think is a good buy. We actually, I mean I actually put out something earlier in the year saying that I thought Virginia was fully valued.

I would say, in all fairness, this is not a bargain basement, extremely undervalued situation right now, but there are very few gold stocks that are. What it is, is one of the top, one of the best quality companies with the best management, strong balance sheet.

It’s got $44 million in cash. That’s on a market cap under $400 million and it’s expected to start generating income early next year, so it’s one of the best companies and the lowest risk gold companies out there. Under $12, I’d be a buyer.

Steve Halpern: Well, it’s an excellent example of the importance of going beyond the obvious headlines and looking further in-depth and analyzing the company. Thank you for joining us today.

Adrian Day: Well, thank you very much, Steven. Thank you.

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