September 20, 2013
Emerging Frontiers recently interviewed Nolan Watson, Chairman and CEO of Sandstorm Gold Ltd., a Vancouver-based gold streaming company. With streaming agreements in markets from Brazil to Mongolia we discussed the current state of the resource industry and some of their streams.
Emerging Frontiers: It’s no surprise that the mining sector has been bludgeoned over the past 2 years. However, unlike in 2008 when there was “blood in the streets”, today it seems the sector is on a quiet, perpetual grind lower. What would you attribute this bear market to beyond the general assumption that developed countries are starting to experience growth again and investors are therefore shunning gold as an investment?
Nolan: I think that the slow march downward is a reflection of a flight of capital out of the mining industry for fundamental reasons. Costs keep going up to mine product and the actual commodity prices have slid lower which has significantly squeezed the gross margin of mining companies and they are much less profitable. Capital is fleeing the industry because of it, and it has been a very, very slow grind.
It is not like 2008, where the fundamentals of the industry were good but there was a liquidity crisis with respect to cash available to invest in anything, and therefore all valuations of everything were low. This is specifically people leaving the mining industry because margins are being squeezed.
Emerging Frontiers: So it seems that this downtrend will be much healthier that the one in 2008, one to truly cleanse the system of uneconomic projects.
Nolan: The industry has been spending money on projects that did not deserve to have money spent on them for quite some time and the tighter reins on capital means that money is no longer being allocated to such projects which is a good thing for the industry, for investors and for the world.
Emerging Frontiers: With debt and equity financing for miners having effectively dried up, is Sandstorm receiving increased deal flow from juniors seeking a less dilutive form of financing? If so, have the terms on these agreements become more attractive?
Nolan: Yes and yes. However, when the equity capital markets in the mining industry are not functioning well, as they are not right now, it becomes riskier for us to do deals. We are still looking for deals and are still working on deals, but we are being much more selective than we have been in the past, recognizing that the risk is higher. I would describe this environment as higher risk, higher reward.
Emerging Frontiers: When miners come to Sandstorm seeking financing in a streaming contract what is the most common mistake they make when pitching their company?
Nolan: They lie. Most management teams significantly exaggerate the truth in nearly all aspects of their deposit and their capabilities when they pitch their mine and their company. Because it happens so frequently, we have become very, very good at reading between the lines and understanding when people are not being candid with us. The more they exaggerate, the lower the probability that we will do a deal with them so they are shooting themselves in the foot by doing so.
Emerging Frontiers: That’s rather ironic. For those companies who approach Sandstorm seeking financing, I must assume that a streaming contract doesn’t always provide them with enough capital. After a streaming contract has been put in place is there an opportunity for Sandstorm to help companies seek alternative forms of financing, helping them achieve their goals?
Nolan: We have spent a lot of time building relationships with investment bankers and other providers of capital so that when we have a project come across our desks that we want to do a stream on and the stream is not going to be enough capital to get the mine fully up and running into production, then we know what alternatives are out there and what alternatives overlay well with the stream.
We are more than willing (and have done so in the past) to help management teams obtain some of that additional capital and we don’t charge any cost to do that.
Emerging Frontiers: Over the past several years we have witnessed an interesting phenomenon where juniors are searching for deposits in jurisdictions either perceived as ultra-risky or ultra-safe, while passing on moderately stable jurisdictions. What has been the cause of this? Have all of the attractive deposits in these countries been discovered?
Nolan: I think that people are searching for deposits in all jurisdictions where it’s economic to mine those deposits. Some of the moderate risky jurisdictions, so to speak, are not always ones where it is economic to mine.
A lot of the European countries for example, it is not economic to mine in those situations so people don’t search for deposits there. In risky countries, it tends to be cheap to mine so if you are fortunate enough to find something and can get the permits and not have the asset expropriated then you tend to make more money in those countries.
On the other end of the spectrum, people like politically stable jurisdictions like Canada and the United States and so a lot of exploration is done there as well.
I think people are going to continue to explore for assets and develop them in the entire spectrum of political risk whether it is safe, medium or risky countries. They will traditionally focus on countries where if they are successful, they will be able to make money doing it.
Emerging Frontiers: Having just returned from a 3-month trip to Mongolia, a country with the potential to become one of the most significant mining jurisdictions in the world, Sandstorm has a streaming contract with Entrée Gold on the Oyu Tolgoi property.
MRAM having caused much confusion and hesitation among investors over the past 18 months, can you provide some depth on the agreement Sandstorm has with Entrée and tell us what is the earliest time in which this stream can come online?
Nolan: The stream is online now but we have to wait for the actual mining to begin on Entrée’s joint venture ground. The timing of that is currently unclear; we believe it will happen in approximately 9 or 10 years from now.
The agreement that we have with Entrée is structured between our Canadian parent companies, so the deal was done in Canada, from our Canadian entity to their Canadian entity which means we are not subject to Mongolian tax, we are only subject to Canadian tax.
Once the mine does start up, Entrée has to deliver us the agreed upon product, or a value associated therewith, in Canada so that the contract is not subject to expropriation nor is any of the tax revenue. So we are fairly low risk from a political risk perspective.
Emerging Frontiers: That is an intelligent move, having minimized your country risk. Now, for anyone who has spent any time in Mongolia this would seem out of the question, but in a worst case scenario how does Sandstorm mitigate its downside if the mine was to be nationalized?
Nolan: In the contract with Entrée, we built in the concept of an expropriation event which allows Sandstorm to receive a refund from Entrée’s parent company in the event that the joint venture is expropriated, fully or partially, by the Mongolian government. Entrée has the cash that we provided to them sitting up here on their Canadian balance sheet so we feel that Sandstorm has very low political risk the way that the deal was structured.
Emerging Frontiers: Continuing in Asia, we’ve seen a very interesting phenomenon in the gold industry here. When owners of physical gold in the west were panic selling, Asians were lining up to buy more. Traditionally long-term owners of gold, Asians have more discretionary income than any time in history. How have the dynamics of this new middle class altered the demand fundamentals of the industry?
Nolan: Historically, over the last 50 years or so, the demand for gold was largely driven based on what the Americans were doing. Obviously other countries in Europe and elsewhere mattered, but gold was largely driven by American sentiment and American savers and Americans buying gold.
The more recent run-up in the price of gold was partially driven by various institutional investors and ETFs in North America buying gold as well, but quietly over the last 10 years there has been an ever increasing demand for physical gold coming out of Asia and the Middle East and that demand has continued to increase, while the Americans interest in gold has decreased.
A significant amount of selling from the gold that has been stockpiled in ETFs and by other institutional investors and hedge funds has caused the price of gold to come down, but all of it is being bought by Asian and Middle Eastern investors and they continue to buy it.
I think there will come a day when a lot of the Americans have liquidated their gold and the buying will not abate out of Asia and the Middle East. I think the fundamentals for the price of gold are beginning to detach from the U.S. economy to a certain extent and you are going to see higher gold prices in the future, irrespective of what the American economy is doing.
Emerging Frontiers: We wholeheartedly agree. The fury with which Asian’s are buying gold is only likely to accelerate. They have experience currency devaluations in the past and understand the benefit of holding gold.
Having retraced from its high of $1,920 in September 2011, how long do you anticipate the gold correction to last and at what price, on the down-side, would you start to become worried for the industry?
Nolan: I think the downturn could last another 12 to 24 months and I become worried for the industry at prices below $1,200 per ounce.
Emerging Frontiers: Nolan, give us a picture of what streaming contracts are to start paying out over the next 12 months.
Nolan: Our public guidance for 2013 is 33,000 – 40,000 gold equivalent ounces which will increase to over 60,000 gold equivalent ounces by 2016. The growth is going to come from production ramp ups at some of our currently producing streams (e.g. Luna Gold’s Aurizona Mine and SilverCrest’s Santa Elena Mine) and some new mines coming online, most significantly the Serra Pelada mine in Brazil, where we have the right to purchase a portion of the project’s gold and platinum.
Emerging Frontiers: Nolan, thank you for speaking with us. We hope to check in again soon.
Nolan: It was my pleasure.
If you want to learn more about Sandstorm we encourage you to visit their website at http://www.sandstormgold.com/
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