Mining Markets


Style meets substance in Rob McEwen

Rob McEwen does things a little differently than other mining CEOs.

Rob McEwen does things a little differently than other mining CEOs.


For one, the president and CEO of McEwen Mining (MUX-X, MUX-T) doesn’t just court large institutional investors. He also makes himself unusually accessible to retail shareholders.


The master promoter hosts a weekly investor lunch at McEwen Mining’s downtown Toronto headquarters, where shareholders and prospective investors can hear the latest from the company, meet the management team, get their picture taken with the mining mogul, and even leave with a McEwen Mining-branded goodie bag.


“Everybody’s putting money in,” McEwen tells Mining Markets during a mid-August interview. “They’re entitled to ask questions and to get an answer.”


Perhaps his respectful treatment of McEwen Mining’s shareholders is because the former investment banker who founded Goldcorp (G-T, GG-N) in the early 1990s, is one of them, despite his affluence. (He’s donated tens of millions of dollars to the McEwen Centre for Regenerative Medicine and $2.8 million to the California-based X Prize Foundation, which is dedicated to fostering breakthroughs in science and technology.)


McEwen believes that CEOs should own a significant holding in the companies they lead. He owns 25% of McEwen Mining’s 268 million shares outstanding, a position that cost him around $110 million. And although the company he runs bears his name, McEwen doesn’t take a salary.


So when McEwen talks about building shareholder value, it’s not another bromide spouted by a well-meaning executive. As McEwen Mining’s largest shareholder, he really means it.


“When I wake up in the morning, I’m thinking about the share price. When I go to sleep, I’m thinking about the share price — and what can you do to build value,” he said during a panel at an investment conference in Hong Kong this summer. “I think that’s missing in the executive suite of most companies out there.”


You can bet, then, that when McEwen Mining encountered an unexpected cash flow problem this year that required the company to raise money in a very stingy market, its president and CEO gave the solution a lot of thought.


The company had been relying on cash flow from its 49% interest in the San Jose mine (operated by JV partner Hothschild Mining [HOC-L]) in Argentina’s Santa Cruz province, to expand its 100%-owned El Gallo mine, in Mexico. The mine, which is also seeing US$14 million worth of exploration drilling this year that has already returned promising results, is expected to produce a total of nearly 200,000 gold-equivalent oz. this year.


However, Argentina threw the company a curveball when it passed a new law last year that requires mining companies to repatriate export earnings and convert them into Argentine pesos before being able to access the funds. The decree has delayed cash flow from San Jose by at least four to five months, and has resulted in a shortage of funds needed next year to expand El Gallo, a low-cost (US$15-million) mine that is expected to begin commercial production of 30,000 oz. gold a year in October. An investment of US$150 million for a second phase of operations would bring production up to 130,000 gold-equivalent oz. Pending a feasibility study due out in late September and successful permitting, the company plans to start construction next year, and mining in 2014.


“We looked at a number of alternatives,” McEwen told Mining Markets in August. “We said we have this gap and we’re going to have to have some additional capital to bridge the gap.”


In the current markets, the company reasoned that debt would be too costly and an equity financing would require a significant discount on the share price and dilutive warrants.


In the end, McEwen Mining, formed by the January merger of US Gold and Minera Andes, has settled on a $50-million rights issue — well short of a US$150-million worst-case scenario it outlined in May. A rights issue, which gives shareholders the option to buy additional shares, proportionate to their current holding and at a deep discount, however, requires the company to jump through more regulatory hoops than other types of financings.


“All the securities commissions across the country make it really difficult for shareholders to participate in the growth of the companies,” McEwen complains. “You have to do basically prospectus-level disclosure to do a rights issue with your existing shareholders. But you can go out and do a bought deal with strangers who will get a good deal on the price in terms of maximum discount, and they do it overnight. Don’t we have this backward?”


McEwen could potentially increase his own holding in McEwen Mining if the rights issue isn’t fully subscribed.


He’s agreed to subscribe for his share of the rights allotted (25% of the total), and will also backstop the deal. (As an insider, he won’t earn a fee for doing so.)


“Right now my cost base is $110 million, so at a minimum, I’d be putting up another $12.5 million and at maximum, $50 million,” he says.


The financing is planned for the fall, after a feasibility for the El Gallo expansion is completed in late September. But McEwen’s willingness to invest even more of his personal wealth into his company speaks to his confidence not just in himself and McEwen Mining’s porfolio, but also in precious metals.


He believes that within the next four years, the gold price will reach US$5,000 per oz., while silver will rise to US$200 an oz.

While radical compared with most forecasts, McEwen’s view is based on his study of the history of gold, its role as money, and the cycle that, over and over again, sees gold climb in value whenever governments become heavily indebted and people lose faith in their currencies.


He sees more mainstream acceptance of gold as an investment — a prerequisite for the price to triple — coming when it reaches a new record high.


“When it breaks through US$2,000, it’ll be a real wakeup call for a lot of people,” he says. “Gold has never been part of modern portfolio theory, so there’s a large number of money managers and advisers and investors who never really thought of gold as playing a role at all in their portfolio. It’s only since 2004, as gold’s moved (up) in not only dollar terms but in all the other currencies (that) people are looking at it, saying ‘What am I missing? Why has it moved so strongly every year? And all the people that advise me, advise me against owning it?’ And yet it keeps moving — against the market, and against other currencies.”


McEwen says he doesn’t know when gold will breach the US$2,000 mark, but he does think the gold price will resume its upward trend out of the US$1,600-1,700 range after the U.S. Presidential election in November.


“I think it’s slowly dawning on some people that maybe you should have some of this for portfolio diversification. The big argument against it was always, ‘Well it doesn’t have a yield. It costs you money to keep it. And it really is driven by jewelry demand — so discretionary income.’ Few people see it as money. I view it as the ultimate currency.”


McEwen uses a measure of the gold price against the value of the Dow Jones industrial average — the number of ounces of gold it takes to buy the Dow — to gauge where we are in the gold cycle (see Page 20 for more on this measure). In 1980, for example, it only took 1 oz. to buy the Dow, whereas in 1999, when gold was mired well below US$300, it took 44 oz. of gold (see Figure 1).


Remembering the lengthy lineups people waited in to buy gold at banks just before the gold price last peaked in January 1980, McEwen says that would be a good signal that it’s time to get out of gold.


“People just suddenly said, ‘I have to own it now,’” he says. “It’s this classic buyer-behaviour model where (at first people say) ‘I don’t want to buy it, I don’t know anything about it. Well maybe I should look at it. Ah, but it’s too late.’ Then the price goes up a little bit higher and they go, ‘I should own that. I better own it now.’”


Currently, the gold-to-Dow ratio is at about 8 oz., but McEwen thinks it will go back down to 1 or 2 oz. in the next four years.

As that time approaches, investors should be looking to get out of gold, he says.


“Gold will reach a zenith in terms of purchasing power relative to other assets,” he says. “There will be that time — there will be equity, there might be real estate, or something else that has suffered. So when the (gold-to-Dow ratio) gets to 5 to 1, I’m starting to think this could come pretty quickly and at 2 to 1, I should be out of there.”


McEwen notes that the peak at the end of the cycle comes quickly. The gold price rose from US$40 per oz. in 1970 to US$400 in September 1979. It then doubled in the next four months, reaching US$850 in January 1980.


The increase had a delayed effect on gold stocks. “It’s interesting, investors didn’t believe that (gold) was going to stay there — because the gold stocks just stood still — they hardly participated at all in that run. It wasn’t until September 1980 that you saw the gold stocks reacting. Even though gold had gone to US$850, it had come back to US$600-and-something but that higher price of gold was impacting revenues and earnings in a very positive way for all the gold producers.”


Musings on the market

As for the current disconnect between share prices in the gold sector and the gold price, McEwen says that too many companies have pursued growth in a dilutive way.


“The mantra was I’ll get a higher share price if I increase my resources and reserves and production,” he says. “So the companies that have fallen a long way, like a Barrick Gold, like a Kinross Gold, and there are numerous others — they’ve gone out and aggressively pursued growth for the sake of growth and have ignored the cost of that growth on their existing shareholders.”


At the same time, McEwen says the extreme cost inflation of the past decade — caused by the rise in metals prices, increasing demand from China and India, and a surge of money into the sector — caught miners by surprise. The shortage of skilled labour in the industry, and suppliers that couldn’t keep up with demand added to the problem.


“When you look at some of the budget overruns, you just shake your head and say I don’t think anybody would have expected those numbers going into their projects,” McEwen says.


“So management’s going, ‘How did that happen?’ and the investors are going, ‘Where’s my dividends? Where are the earnings? You guys, you told me that if you get bigger, there’s more leverage, and my share price should be going to the moon.’”


Competition from gold exchange-traded funds (ETFs), which came along in 2004 and now have a total market value of around US$120 billion, provided investors an easy way to capitalize on the rising gold price, without having to worry about the management of any particular company.


“The ETFs have expanded the gold market considerably, but they’ve almost cannibalized the majors,” McEwen says. “Multiples used to be 2-3 times NAV and now if you’re lucky you’ve got 1.5 times NAV — it’s sort of half to 1.5.”


In the long run, however, he believes gold ETFs will be positive for gold stocks, familiarizing more people with gold investing and getting them more comfortable with investing in gold miners.


McEwen also sees some of the cost pressure easing for the industry as companies react to cost inflation, combined with a moderate slowdown in China.


“There’s some self-correcting mechanisms taking place right now. The big cost overruns are causing some people to rethink their projects, so I think some of the pressure’s going to come out of the industry — the demand for consultants, for drillers, for all sorts of supplies will ease off.”


McEwen suggests the best course for some gold majors could be dividing into small, more tightly geographically focused companies instead of being sprawled across every continent.


“Some of the companies may have gotten too large,” he says, pointing to Barrick Gold (ABX-T, ABX-N).


“I look at Barrick and I compare it to Goldcorp and I think there’s very little difference in market capitalization between the two, yet Barrick produces more than three times the amount of gold and you think, why are they trading so closely together?”


If Barrick split into an “American” division and an “other” division, McEwen thinks the company could add between $5 billion and $15 billion to its overall market cap, with U.S. Barrick commanding a very good premium.


For other companies, and depending on their financial footing, this is both a time of opportunity and danger. Some companies will disappear as they run out of money and aren’t able to raise more, and M&A deals will accelerate, McEwen says.


McEwen himself is on the lookout for such opportunities. Aside from El Gallo, the company’s near-term pipeline includes the advanced Gold Bar project in Nevada, which is expected to add 50,000 oz. of annual gold production starting in 2015, as well as the large, but earlier-stage Los Azules copper porphyry project, in Argentina.


But further growth will be needed to meet the ambitious target for McEwen Mining to qualify for the S&P 500 Index by the end of 2015, a goal McEwen had orginally set for a pre-merger US Gold. To meet that goal, McEwen Mining will need a market capitalization of US$5 billion, among other things, and the dismal markets of 2012 haven’t brought that target any closer.


Despite McEwen’s focus on the company’s share price, it has sunk in line with the market from close to $6 in January to under $4 at presstime, representing a market cap of $700 million.


While McEwen Mining has been slightly singed by the resource nationalism taking hold in Latin America, with countries like Bolivia and Venezuela expropriating assets outright, McEwen says he’s not avoiding the entire region because of it.


“I wouldn’t say I’m staying away from it, I’m just trying to keep my eyes really open,” McEwen says.


“The whole geopolitical aspect — that’s a wildcard that’s hard to predict, other than you know if any government is strapped for money, they’re going to go after the mining companies because largely, they’re foreign owned. They’re not voters in the election, they can’t make that much trouble for the local politicians.


“These politicians have such short memories,” he continues. “They don’t appreciate that, in the mid-’90s, when their predecessors were around, they didn’t have any investment by foreigners.”


He predicts that investment will start to flow to less wealthy countries that don’t have a lot of options, want to create jobs, and also possess a stable legal system and tax laws.


As difficult an environment as it is for gold miners, who have a lot to prove to investors and are facing an “unreceptive” market for financings, McEwen says it’s a perfect time for a small number of new leaders to emerge, on par with Homestake Mining in the ’60s and ’70s, Echo Bay in the ’80s, and Barrick Gold and Goldcorp more recently.


“Someone like Yamana Gold has been sitting back — it issued too many shares and had acquisition problems four years ago, but that seems to be all behind them. Now people are saying OK, they’re delivering on what they said,” McEwen says, pointing to one such potential leader.


The real jolt gold stocks need to exit their rut will come from exploration success, McEwen says.


“A couple of discoveries will excite this market and will ignite it, and there will be some companies that demonstrate they can make money in this sector,” he says. “Investors will come back when they feel that you can make money here. There’s nothing like a good discovery to make people feel that way — you need a few of them.”


–This story originally appeared in the September 2012 issue of Mining Markets magazine.

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