Basic Fundamentals Still in Place Quelle: The Gold Report 02/12/2004 The Gold Report talked with Sprott Mining Analyst David Stein, to get his thoughts on the latest happenings in the gold market. He calls it a "corrective phase," and believes that the basic fundamentals for a rising gold price are still in place. “Right now, I believe we’re seeing a correction that actually started in the beginning of December, when equities topped. That tells me they were anticipating this downward move in the price of gold. The HUI index (The Amex Gold BUGS [Basket of Unhedged Gold Stocks] Index) reached its high on December 1st, I believe, and it’s been trending down ever since in what I would consider a corrective phase. Obviously, the price of gold didn’t actually peak at $425 until January 13th. So it is a month and a half later, and now we are seeing the price of gold trending down as well. I think the gold price needed to correct anyway; it was a little overheated. In making a broad comment on gold equities, we have used the HUI Index, which we believe most closely characterizes the basket of gold stocks that we cover. Over the last three years, the HUI Index has touched down to its 200-day moving average (MA) a number of times during periods of consolidation for the gold sector. Only once in the last three years (February-March 2003) did the HUI Index cross below the 200-day MA for a significant period of time, and we believe that this was due to an “exceptional external” event, in this case the Iraq conflict. Of course this event turned out to be an exceptional buying opportunity for gold stocks. The other major correction since the beginning of the bull market for gold equities occurred in June 2002, ending a seven-month run that started in November 2001. In this case the correction was succeeded by a fairly lengthy consolidation period that took seven months to reach the same top, and another six months to finally break the same level. Overall, despite the correction, I think that the basic supply and demand fundamentals have not changed. What is happening specifically today (Jan. 27) is that some people are getting the sense, based on the Fed comments yesterday, that an interest rate hike may be in order before the end of the year. There are a number of factors that we have outlined in the past that have all contributed to gold’s rise; including U.S. dollar weakness, supply-demand fundamentals, producer dehedging and safe haven buying in turbulent geo-political times, however, during the past seven to eight months, the decline in the U.S. dollar against the other major world’s currencies has emerged as the primary driver of the gold price. The Bush Administration’s struggle to provide stimulus for the U.S. economy appears to be working as planned, but as with all battles, there are casualties and it appears the first casualty has been the U.S. dollar. Historic low interest rates have deflated the currency. Beyond low interest rates, the fiscal policy of the Bush administration and its impact on U.S. government debt is worrying to international investors, highlighted in statements made recently by the IMF. With the U.S. dollar plummeting, many astute investors are looking to gold as a storehouse of wealth in uncertain times. It is our opinion that the supply/demand story for gold could signify a new trend for gold that could last well into the decade; it may provide some boost to the current market, but more importantly, should support prices well into the future. Our forecast calls for gold breaking $500 per ounce in late 2004, averaging $450 per ounce in 2005 and $400 long term.” Comments on Individual Equities My two top picks among the mid-cap companies are Cambior (CBJ.TO)* and Eldorado Gold Corp. (ELD.TO, EGO-AMEX), which I like for different reasons. I like Cambior Inc. because of its value. It’s very cheap on a price-to-cash flow basis. The company has experienced some problems, specifically its hedge book and high cash costs at some of its mines. I expect the company to exit the year with much lower costs, higher production, and almost very little in the way of a hedge book. The opening of the new mine next month in Surinam, the company’s lowest-cost mine, will help bring costs down. I also expect the company to unwind its hedge book this year. Cambior has an excellent balance sheet with a large net cash position. We anticipate the company will either use some of its cash to eliminate its hedge book, or pre-deliver some future gold sales in order to cover it. Cambior also has some very interesting exploration going on at various mines. This could add a lot of value very quickly, because these discoveries will require very little capital in order to add production. Eldorado Gold Corp. is not as cheap as Cambior, although I don’t find it particularly expensive either. It has a steady growth profile for at least the next three to four years. We expect the company to grow production to 450,000 – 500,000 ounces per year within that timeframe, which would make it a very significant mid-tier gold producer. Contributing to this growth are a couple of new mines in Turkey, which the company is actively developing. Eldorado currently produces 100,000 ounces annually in Brazil. With the addition of the Kisladag mine, production will double by mid-2005. Eldorado plans to expand the mine in 2006 and add another in 2007. In addition, the company has announced an initiative to examine opportunities in China. This would extend the growth profile beyond 2007. We see Eldorado bringing its mining expertise and capital to China, the same way it did in Turkey 10 years ago. High River Gold Mines Ltd. (HRG.TO), a small-cap company, is also very cheap on a price-to-cash flow basis. High River has a growth profile, and we typically see growth companies trading at a premium. I think as the company demonstrates growth potential with some of its new projects, it will achieve a higher multiple. High River currently produces about 120,000 ounces in Russia and Canada. The company is planning to bring on two new mines – one in Russia and one in Africa – in the next few years. That should increase production to roughly 200,000 ounces. So what you get is growth at a reasonable price. There is some potential geography-related risk, specifically with Russia, but High River is not alone in paving the way there. I think the risk is going to decline in the next few years. I also like Desert Sun Mining Corp., though it’s a little riskier given its small size and the fact that it currently has no production. But the company is planning to re-start production at Jacobina, a mine in Brazil that had been producing until 1998. Up to then, it was a fairly poor performer. However, a number of positive changes have occurred, both with the mine itself, and externally, which make this a favorable project in my mind. For one, the gold price is obviously much higher now. Also, changes in the Brazilian currency have resulted in other major producers with mines in Brazil, such as Eldorado, finding their costs going down over the past few years because of the currency change. Brazilian currency was artificially pegged five to six years ago to the U.S. dollar. It’s now freely floated for several years, and certainly it’s now roughly 3-1 Real to the U.S. dollar, and inflation has not caught up. As for the mine itself, it was previously undercapitalized. However, Desert Sun is taking a more measured approach this time to putting the mine back into production. The company is ensuring that all the development is ready to start production in early 2005. I expect the company will go from producing nothing today to producing 100,000 ounces next year. The company’s exploration potential looks very good. It has almost 4 million ounces of resources there today, and continues to find more gold on the property. So, there’s a potential further down the road for the company to expand that production with the resource base that it has. The other company I am focused on is Yamana Gold Ltd. This is another cheap growth company, on a price-to-net asset basis. Yamana has a mine in Brazil, which produces 100,000 ounces. It has a short mine life which is a challenge, but additional exploration looks promising. We think they should be able to extend that the life of that mine for at least a few more years. The company also has a very exciting growth profile. Yamana has three different projects, all in Brazil, so it stands to benefit from the same currency trends that Desert Sun and Eldorado have benefited from. The three projects, which the company is going to build over the next three to four years, should take Yamana’s gold production to 400,000 ounces. The challenge inherent in building three new mines is somewhat softened by the fact that the first mine will be small, followed by a larger one, and then the largest. So the company can practice with the first one, which is projected to produce about 35,000 ounces. The last project, which is the largest, is actually a copper/gold project. If you add the copper, the company’s revenues should increase six to seven times. Additionally, Yamana is putting a lot of money into exploration and we actually expect exploration results in the next few weeks that could be very positive for the company from one of their gold projects. The last company I would like to mention is Rio Narcea Gold Mines Ltd. (RNG.TO) They announced today that they are cutting gold production, at least for the time being, unless they can find an acquisition. I currently do not actually consider Rio Narcea to be a gold company. I’ve moved the company into my base metal group, because it is building a nickel mine that is going on-stream by the end of this year, and that’s going to completely overshadow their gold production. Our view is that [despite the announcement that they are cutting gold production], Rio Narcea is still worth owning, primarily as a near term new nickel producer. . . The real investment story for Rio Narcea is now whether it can initiate production from the nickel mine smoothly and without delay, and whether it can salvage the gold operations over the longer-term with acquisitions or exploration. We lowered our recommendation to Buy (S), from Top Pick.” Disclosure Statements: During the last 24 months, has Sprott Securities Inc. provided financial advice to and/or, either on its own or as a syndicate member, participated in a public offering of securities of these companies? YES During the last 24 months, has Sprott Securities Inc. received compensation for providing investment banking services to these companies? YES During the last 24 months, has the analyst of this company received compensation from a pool that included investment banking revenue from this issuer earned by Sprott Securities Inc. or entities affiliated with it? YES *Does the analyst or a member of the analyst's household have a financial interest in the securities of any of these companies? YES Which one? Cambior Is it a long or short position? LONG What type of security is it? COMMON Does Sprott Securities Inc. and / or one or more entities affiliated with Sprott Securities Inc. beneficially own common shares (or any other class of common equity securities) of these companies which constitutes more than 1% of the presently issued and outstanding shares of these companies? NO
