Golden Opportunities Abound Way Up in North Quebec: Eric Lemieux

Eric Lemieux As a former exploration geologist and now a mining analyst for Laurentian Bank Securities, Eric Lemieux likes to walk the ground and see for himself the companies he researches. In this exclusive interview with The Gold Report, Lemieux brings us up-to-date on exploration activities in the James Bay and Northern Quebec areas of Canada. He also gives us a rundown on his latest picks for companies that hold good upside potential in this exciting exploration area.

The Gold Report: When you last spoke to The Gold Report this past July, you were preparing to head up north to visit some of the companies you follow in James Bay and Northern Quebec. What did you learn on that trip?
Eric Lemieux: Indeed, at the end of last July, I went to Nunavik in Quebec, north of the 56th parallel, to visit Azimut Exploration Inc.’s (AZM:TSX.V) and Aurizon Mines Ltd.’s (ARZ:TSX; AZK:NYSE.A) Rex and Rex South polymetallic projects. I learned that the area could perhaps host a potentially huge hidden iron ore-copper-gold deposit, possibly similar to the Ernest Henry deposit in Australia. Obviously, these projects are still grassroots and remote, but they are pure blue-sky exploration potential projects, searching for elephants that could, with time, pay out huge discovery payoffs.

Also in early August, I visited Midland Exploration Inc.’s (MD:TSX.V) Ytterby project in the Strange Lake rare earths area and observed Midland’s and partner Japan Oil, Gas and Metals National Corporation’s phase 1 exploration drilling program. Later in August, I was able to go and see Balmoral Resources’ (BAR:TSX.V) Fenelon project, which is on the Quebec side of the Detour Lake deformation zone on the border of the James Bay area.

I also visited the Stornoway Diamond Corp. (SWY:TSX) Renard project and saw the kimberlite both in outcrop and drill core with my own eyes. I think it’s important to do site visits where you can learn a lot by interacting with management and the technical people.

TGR: Basically, you’re doing your own follow-up grassroots research, so to speak.

EL: Yes. I’m an exploration geologist and I have a predisposition to look at early plays where there is tremendous potential or leverage to discovery. I like to look at these projects to better understand the geology, see the geological models and get a better sense of the potential size of an eventual deposit. There is value in grassroots projects when you have good teams working on them and sound geological models.

TGR: Before we get into more specifics on these companies you visited, can you give us your general thoughts on what’s going on with precious metals and the mining shares? After a bad year last year, what are you expecting this year?

EL: I hope that 2012 will be a much better year for the commodity explorers and developers in general. I expect that there will be tighter supply, compounded by the fact that we have inflamed costs in the mining industry. There are also dwindling reserves and resources, social constraints and a tighter specialized labor force for mining. All of this is creating increased costs and eventually tighter supply. I think that should provide support to the commodity prices and should eventually trickle down to the shares, which haven’t seen appreciation in line with the rise of commodity prices. So I’m enthusiastic or at least hopeful for a bullish 2012.

TGR: You just put out a book-length research report this past January on the James Bay mining area. What makes this region so attractive at this point?

EL: I did put out a 167-page research report that covers seven names and a lot of material. I believe that the James Bay region in Northern Quebec remains attractive because of four main reasons: infrastructure, social stability and acceptance, increasing knowledge of the geological potential and the growing Éléonore deposit of Goldcorp Inc. (G:TSX; GG:NYSE).

The planned Plan Nord infrastructure will provide road access, which opens up possibilities to explore at lower costs than having to fly in by helicopter or float plane. There is also relatively cheap and available electrical power.

In terms of social stability and acceptance, that area is inhabited by the Cree or the Inuit in the north, and there is now a track record of mutual respect and cooperation. Goldcorp signed an agreement last year with the Cree people that is beneficial for all parties and creates a very strong template for development in an environmentally friendly and respectful way.

There is also an increasing knowledge of the geology there compared to 15 or 20 years ago as a result of geological survey work done by the Quebec government and the Geological Survey of Canada. That allows companies to work there with new geological models, which help to uncover its mineral potential.

Finally, the Éléonore deposit of Goldcorp is advancing and is showing that there is an emerging mining camp that is about to put Northern Quebec and the James Bay area into the spotlight.

TGR: In your research, you list about 25 companies that are active in this region. Their share prices are all over the map from about $0.05/share to up to nearly $10/share. What do you use for selection criteria for deciding what companies you want to cover?

EL: I don’t cover all of those 25 names per se. There are seven names I actually initiated on. I mentioned the others because I wanted to highlight the evolution of the share structure. Two elements I find key are tight share structure and quality management; some of these companies were able to minimize their share increases, which permits tremendous leverage to discovery. Also, showing that more companies are working in that area indicates that there’s greater probability of discovery.

TGR: So, how did you decide to choose these seven companies?

EL: Again, it’s the quality of management and tight share structure. When I talk about quality of management, it involves the upper management, their track record, their reputation and the technical team. I always find it important to bring my fresh eyes on site visits and talk with the people who are working on the ground. So, when I selected my companies, it was because I was able to get to better know their management and technical teams, their history and their plans.

TGR: Can you give us a brief review on each of these new companies and what you’re expecting from them in the next year or two?

EL: My seven companies—Adventure Gold Inc. (AGE:TSX.V), Virginia Mines Inc. (VGQ:TSX), Eastmain Resources Inc. (ER:TSX), Balmoral, Azimut, Midland and Stornoway—are pretty much all active in the James Bay region or Northern Quebec, which is vast, under-explored and also well positioned with the Plan Nord.

I have a “Speculative Buy” on Adventure Gold, with a $1.20/share target price. Adventure is a focused gold explorer and project generator with an extensive, well-positioned portfolio of projects within the Abitibi mining camp, including the Cadillac-Larder fault, the Casa-Berardi-Cameron fault and the Detour/Sunday Lake fault. Adventure has strong management and staked most of these projects itself. I always appreciate companies that are able to generate their projects cheaply and don’t make expensive option deals or things like that.

Adventure’s key project in 2012 is the Pascalis-Colombière, about 30 kilometers (km) east of Val d’Or. It has started a 15km drill program, which should lead to its first resource estimate on this well-located project with very sizable potential. It is also active on the Lapaska project, about 40km east of Val d’Or, which could be an open-pit target. Adventure has a strong portfolio with five or six early stage projects to the east on the Quebec side of the Detour gold deposit. It may start drilling there by the end of the year. There are other players in that area that we’ll discuss later and, if any of those has success in drilling, I think it will gravitate to the other ones that control some of the land package in that area.

The next company is Virginia Mines, which is my top pick. I have a target price of $17/share, essentially based on the value of the royalty it has on the Éléonore deposit. It’s a 2.2–3.5% royalty based on gold production from Goldcorp’s Éléonore project. My thesis is that royalty is gaining value because Goldcorp is now building a world-class mine with a $1.4 billion (B) investment. As the project grows and is derisked, Virginia’s royalty is gaining value.

Virginia also has a very aggressive 2012 exploration program on several projects, spending about $20 million (M) in the first part of the year. It has quality partners including Anglo American Plc (AAUK:NASDAQ), Quadra FNX Mining Ltd. (QUX:TSX) and IAMGOLD Corp. (IMG:TSX; IAG:NYSE) funding about half of it. I consider Virginia “la référence” (the reference) for mineral exploration in Quebec. It has a very strong pipeline of projects and a great exploration team. André Gaumond, the president, has always focused on social responsibility and good community relations with the Cree and the Inuit and with the different communities.

I have also Eastmain Resources as a “Speculative Buy” with a $2.80/share target price. I believe Eastmain is very well positioned with three key projects: the Clearwater project, the Eastmain mine and the Éléonore South project, which is a joint venture with Azimut and Goldcorp. Eastmain’s flagship project is the Eau Claire deposit of the Clearwater project, which you can almost drive to in a pickup. Last year, it brought in a 1.6 million ounce (Moz) global gold resource, drilled more than 20 km and expanded the deposit. Eastmain will have a 40 km drill program in 2012 on the Eau Claire. It will be very active, with more than 50km of drilling in 2012, and it will be interesting to see how it advances its three to four key projects.

Another company I cover is Balmoral Resources, which was created in 2010, and has an extensive land position on the Quebec side of the Detour Lake/Sunday Lake deformation zone, east of Detour Gold Corp.’s (DGC:TSX) huge Detour gold deposit. Balmoral was one of the first ones to option properties there and increase its land position by staking. It has a very strong footprint of properties along that belt, which has not had as much exploration as the Ontario side, due to the depth of the overburden, which makes exploration very difficult. On Balmoral, I have a “Speculative Buy” with a $1.50/share target price that’s based on its very aggressive drilling program planned for 2012 on its Detour Lake properties and the quality of its management team led by Darin Wagner. I think the key projects are the Martiniere and Fenelon. I expect that in 2012 it will have positive results on increasing the zones highlighted with its 2011 drilling.

TGR: So you also have Azimut Exploration. What’s the story on that one?

EL: On Azimut, I have a “Speculative Buy” rating and a target price of $1.40/share. Azimut is a project generator using innovative targeting methodologies and has amassed a huge land position in remote Northern Quebec. This was based on compiling government geochemical surveys of the lake sediments showing some interesting anomalies of gold, copper, rare earth and other elements.

Azimut believes this area could possibly host a world-class deposit in the iron ore-copper-gold spectrum similar to Australia’s Ernest Henry deposit or the Olympic Dam. It’s very grassroots, but its geological model is finding interesting targets. It did do a rotary air blast drilling program last summer (29 drill holes totaling 2,136 meters) without much success, but, when you realize that the area is huge, there is room to hide a huge deposit. So Azimut’s strength really is to be able to look for and hopefully generate world-class deposits in areas that have not been thought to be able to contain these. It’s a wild card, but it’s one that I think is interesting to have in one’s portfolio if there is a discovery that could yield a humongous payout.

TGR: Other than Virginia, these are all fairly low-priced opportunities and if they score, they can really score. There’s also Midland. What’s going on there?

EL: On Midland, I have, again, a “Speculative Buy” and a target price of $2.75/share. Midland is an active project generator and has a diversified portfolio of projects focused only in Quebec. It has a growing exploration program for 2012 and a lot of quality partnerships. So, for 2012, Midland is reaping the benefits of being very proactive in 2011, generating new projects and getting new partners.

One of Midland’s key projects now is the Casault project, which is a joint venture with Osisko Mining Corp. (OSK:TSX). Casault is to the east of the Detour Lake deposit and Midland and Osisko are now drilling there. Midland also has a strategic partnership with Agnico-Eagle Mines Ltd. (AEM:TSX; AEM:NYSE) drilling the Maritime Cadillac project, east of Agnico’s Lapa mine. Midland is also drilling on its Laflamme property, a partnership with North American Palladium Ltd. (PDL:TSX; PAL:NYSE). This was a gold project, but last year it hit nickel-copper-PGE intersections and was able to find this unkownn massive sulphide. So, again, Midland’s way of doing things is to generate projects in an area that perhaps has been overlooked and then attract quality partners. It has about a 20km drill program for 2012 and I expect some good results that should help it hit my target price of $2.75/share.

TGR: Then you have Stornoway Diamond, which is in a different business.

EL: This is obviously a new oddball for me, in the sense that I’m not a diamond specialist, but, as a geologist, I understand the process and I did do my due diligence. Stornoway has a very strong team that’s been building a quality asset over the last 10 years. This deposit has a lot of potential with a positive feasibility study that was completed at the end of 2011 showing a robust diamond project. Diamond quality appears interesting. Stornoway has completed a mining plan that could potentially incorporate pipe extensions where drilling has shown geological continuity, but limited sampling—bulk sampling—has precluded them in a resource estimate. A potential mineral deposit, which it can’t be qualified or quantified in an economic analysis, is the hidden card of this project. With diamonds, not only are tonnage and grade important, but also quality. That means that you have to do a lot of work through bulk sampling and diamond valuation.

I do believe that Stornoway’s project is well positioned. The 167 Ext road will be there by the time it is able to start construction. Obviously, there are some big risks, the biggest one being the financing risk. Overall, however, the supply and demand equation for diamonds is favorable in the coming years. In China and India, the populations, growing both in numbers and in size of the middle classes, believe diamonds are a store of wealth and a sign of prosperity. I think there should be better days ahead for the diamond industry and the Stornoway project could be a very strategic first diamond mine for Quebec.

TGR: A few years ago, there must have been a couple hundred companies in this business. What do you think the prospects are for others to come up with something significant?

EL: A few years ago, there were a lot of diamond explorers, but diamond exploration is not a simple endeavor. It takes a lot of patience and work to bring it to a certain level and only the strongest players are surviving.

I still think that there is great diamond exploration potential in Canada, The Ekati and Lac de Gras discoveries are world-class mines that show there is potential. I think there are probably other projects in Canada that will be able to go near or above that threshold.

TGR: To summarize, what general thoughts would you like to share with our readers as far as precious metals, the mining share markets and what they should be doing and looking for at this point to try to make the most of current opportunities?

EL: I still believe that the price of gold is set to go higher. There is persistent global economic turmoil in Europe and in the U.S, ongoing debt problems and I believe inflation could be around the corner. All of those support the price of gold and commodities.

I like to highlight the fact that if you can’t grow it, you have to mine it. People don’t realize that a lot of the products we use every day and a lot of the infrastructure we have comes from the earth and has to be mined. Yes, I think we have to mine it responsibly, but people have to realize that there’s a price to this. Mining is a complex business. We see it every day. There are incidents and challenges that are very hard to control—rock mechanics, weather issues, social unrest, regulatory challenges and government greed—but this is, again, testament to me that there are some notions of supply where it’s not a done deal. There are challenges to the supply aspects, which will provide strength to commodity prices. In general, I’m bullish on commodity prices because the fundamentals are good.

TGR: I think that pretty well summarizes things. We appreciate your time today and look forward to talking again later in the year.

EL: Thank you.

Eric Lemieux is a mining analyst who joined Laurentian Bank Securities in 2008. He worked for nine years as a consultant responsible for applying Regulation NI 43-101. He has worked at the Montreal Exchange, and prior to that managed exploration projects for Cambior, Noranda and Soquem. He holds two master’s degrees, in mineral economics from Colorado School of Mines and in metamorphic-structural geology from Laval University.

Movement at SEBI towards principles-based regulation

A milestone for SEBI in its rule-making function

SEBI is a modern financial regulator in that it issues `subordinate legislation’ (i.e. regulations) which constitute law. These laws embed intricate domain knowledge where Parliament does not have the capacity for detail. This separation — where Parliament sets up SEBI and gives it the power to write subordinate legislation — is the hallmark of modern regulatory arrangements. This needs to be accompanied by sophisticated arrangements through which such regulatory agencies are independent, accountable and free of conflicts of interest. While SEBI has many problems, it is the most sophisticated arrangement of this nature found in India today.

From 1996 onwards, SEBI has issued regulations for mutual funds. On 21 February, they published regulations (”SEBI (Mutual Funds) (Amendment) Regulations, 2012″) that govern advertisements of mutual funds, and the methods by which the mutual funds value their assets and consequently the units that they issue.

These regulations are a major milestone in the evolution of Indian financial regulation, in the shift away from rules to principles.

Rules versus principles

The two major approaches to regulation are ‘rules based’ and ‘principles based or outcome based regulations’. Rules based regulation set out the processes by which a regulated entity is supposed to comply with, and is not directly concerned with the outcome. Rules based system of a major shortcoming: Firms will then try to find clever ways to comply with the letter of the law, but defeat the purpose of the rules.

As an example, consider the statutory warnings for cigarettes. The rules required that the font in which the statutory warning was
printed should be of a minimum ‘height’. Firms got around this by printing them in the required height but reducing the width of the
characters to a ridiculously low size, so that it was very difficult for readers to decipher. Thereby, they were able to comply with the
directive for statutory warnings, yet defeat the purpose of warning buyers.

The rule was recently modified to require cigarette packets contain a picture of a pair of lungs with cancerous growth. The companies
again complied with the requirement. However, the resolution of the pictures is so low that they look like two blotches of ink to a
normal viewer. These blurry pictures cannot be interpreted by anyone lacking in good knowledge about human anatomy. The person must not only know what a pair of lungs looks like but also must know that the light blotch in the dark blotch represents cancerous growth which may kill him.

Rules based regulation draws regulators into an endless arms race, where the industry will always tend to invent ways to circumvent the rules. It creates an unhealthy tension in the relationship between regulators and the industry. In addition, rules tend to rapidly become obsolete with the constant evolution of technology and processes. Government has to keep modifying the rules, catching up
with new thinking in the industry. If this is not done, Government holds back progress by preventing such evolution.

Law based on principles is not new. A large number of our older laws have been based on principles. These laws do not specify a
method or process that an entity must approach but lay down the guiding principle that it must follow. A beautiful example of this
is the Indian Contract Act, which was written in the late 19th century. It is principles-based law that has stood the test of time.

As an example, the Contract Act defines acceptance of a contract to be complete when information of acceptance reaches the person who offered the contract. This definition in no way requires a specific formact for sending the information of acceptance. Whether it is oral or through a letter, it is valid. When the Contract Act was written, telephones or email had not been imagined. However, the
principles-based text of the Contract Act has withstood 150 years of technological change.

An expert body, like SEBI, which studies the market and issues subordinate legislation, yields greater malleability. Rules-based regulation can be repeatedly changed. However, the full benefits in terms of heightened malleability are obtained when the very subordinate legislation is principles-based.

Principles-based law is integral to common law and is part of our legal heritage. In recent decades, when India became socialist and when staff quality in government agencies declined, there was an insiduous shift to detailed, prescriptive, micro-management. Principles-based regulation and laws was put back on the financial policy agenda by the Percy Mistry report in 2007.

The new principles-based SEBI regulations

The new SEBI regulations on advertisement show the shift towards principles-based regulation. For example a regulation reads:

In audio-visual media based advertisements, the standard warning in visual and accompanying voice over reiteration shall be audible in a clear and understandable manner. For example, in standard warning both the
visual and the voice over reiteration containing 14 words running for at least 5 seconds may be considered as clear and understandable.

Instead of mandating that the warning should be at least 5 seconds long, it has stated that that it must be clear and audible. The 14
words in 5 seconds is now not a legal requirement: it is only an illustration of how the principle can be satisfied.

On valuation, the new regulations say:

The valuation of investments shall be based on the principles of fair valuation i.e. valuation shall be reflective of the
realizable value of the securities/assets. The valuation shall be done in good faith and in true and fair manner through appropriate valuation policies and procedures.

This regulation recognises that there are many different types of assets a mutual fund may acquire, stocks, securitisation papers, derivatives, bonds, etc. Each of them may have different forms of valuation. More importantly the list of assets mutual funds may buy is not exhaustive: as the Indian financial markets develop there may be other instruments that mutual funds may purchase. The principle however, will hold true for different assets and valuation
methods. The objective of the regulation is to ensure that the investors get a fair picture of the assets their fund holds.

Assessment

We do not know what forms of media the mutual funds will use in the future: billboards will go 3D, holograms will be used, mobile
phones will explode with targeted advertising. Mutual funds will also invest in new financial instruments in global markets. As
long as the provide warnings in a clear and understandable manner and value their assets in a fair and truthful system, the will be
compliant with SEBI regulations and can innovate freely.

Principles based regulations have two major advantages over rules based system:

  1. The regulations require the regulated to strive towards an outcome and not mechanistic compliance.
  2. The regulations allow for innovation to be absorbed quickly by the industry as long as they meet the objective of the
    regulation. Imagine if the Contract Act had specified that all acceptance of contracts should be done by letters. All the
    innovation of e-commerce, mobile telephony based commerce, telephonic negotiation and trading would have been illegal till the statute was amended. This would have required Indian law-makers to constantly update the Contract Act.

Moving to a principles based system is a crucial step forward, away from the command and control mindset that many regulators
suffer from. Instead of prohibiting malpractices, all too often, laws in India micro-manage the regulated business. This is a recipe
for stagnation.

However, principles based financial regulation also has costs. Rules are black and white – there is legal certainty. With principles based regulation, the precise nature of a government response to a new idea by the private sector is less predictable.

More complex behaviours are, then, required of the regulator. More litigation will arise. This will impose a greater burden on staff in regulators, courts and law firms. They will need to understand principles (and their underlying drafting intent), alongside practical knowledge about how the real world works, so as to be able to intelligently apply the principles. This requires a great deal of understanding of technology, business and regulatory objectives. Moving towards a principles based system requires commensurate strengthening of staff capabilities at SEBI, the Securities Appellate Tribunal (SAT), and the Supreme Court.

Loans Aren’t the Solution

There has been enough time and evidence now to explore the full impact of microcredit in depth, and, set against its vaunted reputation, my verdict is dour: Microcredit rarely transforms lives. Some people do better after getting a small business loan, while some do worse — but very few climb into the middle class. It’s a constructive endeavor, but it has been vastly overhyped. And the hype has undermined the good that the movement can achieve.

This shouldn’t really come as a surprise. While microcredit loans are fairly reliable, in terms of risk, they don’t actually do all that well when making a difference. The reason for this is simple: credit is not a magical potion that fixes all of life’s ills. Rather, debt is toxic, particularly when it is massive in scope (in a relative sense, of course). Plus, as one wise man once observed, time and chance happens to everyone. Thus, the fact that credit can’t cure every economic woe coupled with the normal fluctuations and happenstance in life has ensured that microcredit has made all that much of a difference.

Economic Events on March 12, 2012

At 2:00 PM Eastern time, the Treasury budget for February will be released, providing an account of the federal government’s budget surplus or deficit for that month.