Special Interest Comment - June 15, 2012: Argus hopes to turn Kaituma Big Anomaly into another Rossing South uranium deposit
Argus Metals Corp is half-way through an 18 hole 2,500 metre drill program that is testing a 9 km portion of a 1 km wide radiometric anomaly on its 100% owned Kaituma project in Guyana. The objective is to demonstrate that Kaituma hosts a low grade open-pittable uranium deposit similar to the Rossing South (Husab) deposit in Namibia owned by Extract Resources Ltd which a Chinese group bought out at AUD $8.65 per share on May 25, 2012, valuing Rossing South at $1.8 billion. Should Argus succeed in outlining a world class 200-500 million tonne Rossing style deposit grading 300-600 ppm U3O8 (0.03%-0.06%), and Guyana proves receptive to the development of a uranium mine, such a discovery could eventually command a $2 billion valuation. Assuming Argus' fully diluted capitalization stays at about 100 million shares, such a discovery would imply an eventual price target of $20 per share, a 40,000% gain from the stock's current gutter price of a nickel.
I used Argus in my Cambridge keynote presentation about "The Return of the Big Anomaly" as an example of a junior dealing with a rollback future by using its last dollars to throw a "hail mary pass" at its best target. The company resisted efforts from Howe Street brokers to farm out the project to another junior with high profile backers and an advanced uranium project stuck in a jurisdiction not overly friendly towards uranium mining. Mike Collins and Paul Gray figured they owed it to their shareholders to swing for the fence with a 100% owned bat. Argus is thus spending its last $300,000 on a program that will drill test this Big Anomaly for the first time ever, a target whose nature is such that a program of this scale can readily make or break the bluesky potential. Argus Metals Corp is not a KRO recommendation, but it is the first junior not already a Spec Value Hunter recommendation to be inaugurated into the KRO Big Anomaly Club. With luck Argus will not be ejected from the Club four weeks from now when the Kaituma drill results come due.
To appreciate how difficult the junior resource sector has become, consider Argus' recent efforts to raise some staying alive funds ahead of its Big Anomaly test. On May 15 Argus announced a private placement of 7 million units at $0.05 with a full one year warrant exercisable at $0.10 that would raise $350,000, insufficient to allow a meaningful program on its Hyland gold project in the Yukon where it has focused its efforts during the past two years with less than stellar results. This extra money will allow Argus to go into survival mode, orchestrate a rollback of 10:1 or worse, and wait for the end of what could be an extended bear market. On June 14 Argus announced that it had managed to close only 2,559,400 units, a third of its objective. In February it managed to close a $655,100 private placement at $0.10 with a half warrant at $0.15 for which a bunch of brokers lined up.
Nothing about the company's project fundamentals has since changed, yet only one broker, Haywood's Tom Seltzer, participated in this latest considerably more lucrative round. I myself participated for a small portion of this private placement because the Big Kaituma Anomaly offers such high reward potential relative to cost, and even if it is a total bust, I may not have to suffer the cost of a near total loss if the gloomy macroeconomic outlook weighing upon the resource sector proves unfounded, thus enabling this junior with a competent exploration team and a not entirely dead Yukon gold play to stave off a rollback for at least another year. Argus is making feeble noises about closing the second tranche, but with the drill program halfway done and a scintillometer on site so that the drillers know when the core is too hot to handle, I think management would be skating on thin ice if somebody came on board now. Betting has closed, we are at the mercy of the truth machine, and there is no anticipatory action in the Argus market suggesting that this half empty glass will end up anywhere but utterly drained.
Now suppose in a month Argus reports Kaituma assays running 300-600 ppm U3O8 over intervals up to 100 metres, signaling that the $2 billion dream target is alive rather than dead. Why would that not be a total surprise?
Argus acquired the Kaituma project in Guyana along with the Hyland project in the Yukon in November 2009 from Victoria Gold which had inherited these low priority projects when it acquired StrataGold for its Dublin Gulch project. The Kaituma project consisted of two licenses, one of which, Kaituma West, was subject to a title dispute involving an Australian company that did not get resolved in Argus' favor until January 2012. The Kaituma Big Anomaly is not new; it simply has never been drilled for its uranium potential.
During 1980 Cogema conducted a ground scintillometer survey, but likely lost interest after Three Mile Island chilled the enthusiasm for nuclear energy and sent uranium prices into a multi-decade $10/lb rut. In 1996-98 BHP conducted an airborne geophysical survey and a stream sediment sampling program which highlighted the Kaituma radiometric anomaly. The fact that BHP did not test for uranium in its soil geochemistry program suggests that uranium was not among its target metals. StrataGold acquired a license in November 2005 with the objective of investigating the prospect's gold potential; an auger sampling and trenching program in 2006-2007 confirmed elevated uranium values within the 10-20 metre thick saprolite horizon covering the radiometric anomaly. As its name suggests, StrataGold was evaluating Kaituma's gold potential, and never followed up the uranium potential, especially after the Australians clouded title to the Kaituma West license.
In 2010 Argus undertook a sampling program which confirmed that the portion of the radiometric anomaly that extended onto the unclouded Kaituma East license was equally promising. Not eager to raise the stakes in a country where the judicial system is not always what it ought to be, Argus decided against drilling the Kaituma East portion of the Big Anomaly, never considering that if and when it finally secured title to the entire target, absolutely nobody would care. Fukushima's bad publicity blast in March 2011 for the nuclear energy sector, of course, could not be foreseen.
The radiometric anomaly straddles a regional fault that divides granitic rocks to the north from a metasedimentary basin to the south. The metasomatic alteration suggests that this fault served as a conduct for hydrothermal fluids that introduced uranium into the granitic rocks whose leucogranitic nature bears an affinity to the "alaskite" granitic rocks that host the Rossing and Rossing South uranium deposits in Namibia. On its web site Argus offers the following geological description:
"On a regional scale the geological setting of the Kaituma property is considered to be highly favourable for uranium mineralization. The 70 sq km airborne radiometric target is situated along a major fault located along a regional-scale tectonic boundary between granitic basement rocks on the northern half of the property with a metasedimentary basin located on the southern half of the property. The hornblende biotite granitic basement rock was subjected to metasomatic alteration with the introduction of sodium (Na), oxygen (O), iron (Fe) and uranium (U) hydrothermal fluids introduced along the fault structures in the granite during the Trans-Amazonian orogeny. The granite is altered to an "episyenite," with a strong overprint of hematite, albite and dissolution of quartz in the vicinity of the uranium mineralization. Other rock types include a variety of "episyenites" including peraluminous syenite, peralkaline syenite and altered granitic basement rocks. On the southern half of the property, highly folded banded iron formation and manganiferous phyllites are intruded by large dolerite dikes."
This does not say much more than that the rocks on both sides of the fault were pumped with uranium bearing fluids and the granite to the north seems to have soaked up some of the uranium. The question relevant to the Big Anomaly is how much uranium did the leucogranites soak up? The saprolite sampling work done by Argus and its predecessors does not exactly make this a no-brainer geochemical Big Anomaly of the sort that turned Arequipa's gold-silver Pierina prospect into a $1 billion valuation before any drills started to probe the third dimension. The saprolitic soils over the radiometric anomaly are anomalous for uranium, and weathered outcrop has yielded grades up to 259 ppm U3O8. If this grade were consistently present we could start to harbor hopes that Kaituma is another Rossing deposit which Rio Tinto put into production in 1978 with a head grade of about 300 ppm U3O8. But note the qualifying adjective "up to", which means that this was the best value while the rest were likely considerably lower. Argus has not published any detailed surface sampling values, which is a good sign that most of the values are considerably lower than the maximum value.
By themselves the Kaituma saprolite grades do not promise an economic uranium deposit at depth, but within the theoretical context that these grades are residual courtesy of the leaching the surface rock has undergone in this tropical setting, they open up the possibility that beneath this surface veneer of depleted but still anomalous uranium mineralization the fresh bedrock may host uranium grades in the 300-1,000 ppm range as they do at the Rossing South deposit. Argus has initiated a $300,000 drill program which will drill 18 holes along 6 fences straddling an overall 9 km strike of this radiometric anomaly to a maximum depth of 150 metres.
A trick question investors can ask a resource junior blowing its horn about an upcoming drill program is to ask about the size of the tonnage footprint the drill program will test. This is a sneaky way to compel management to describe the size of the anomaly they hope to convert into a mineralized deposit. Most resource junior representatives will have no clue how to answer this question, especially if they are being paid $5,000-$10,000 per month to conduct something called "investor relations". The smart ones who are driving the exploration program and are the "vision-keepers" of the story will be evasive because securities regulations are geared toward protecting investors from speculative outcome visualizations they might confuse with the returns guaranteed by bank savings deposits yielding less than 0.5% that are backed by credit default swaps written against European sovereign debt. The tragedy of the junior resource sector is that investors are denied the opportunity to understand the nature and size of the potential reward on which they are placing bets. But there is a simple way to do this that requires no greater mathematical skill than needed to graduate from elementary school.
Orebody arithmetic requires only one major concession, namely the willingness to use metric units rather than the barbaric imperial units that are still the norm in isolated countries such as the United States, fiefdom of the Tea Party, and Burma, home of the numerology movement. If you can calculate the metric volume of a deposit in cubic metres, achieved by multiplying the strike (length) of a Big Anomaly by its width and then by its depth, then all you need is the magic number known as the specific gravity (SG), which is the factor by which a volume is heavier than the equivalent volume of water (a cubic meter of water at the atmospheric pressure at sea level weighs one metric tonne).
I apologize to those readers for whom this is so obvious it borders on the tedious, but for the rest of you I offer an anecdote about the beauty of simplicity. A decade ago when I was formulating my rational speculation model in the context of diamond deposits, I grumbled to fellow newsletter writer David Coffin of the Hard Rock Analyst how complicated it was to estimate the tonnage of a kimberlite pipe, which required subtracting smaller cones from bigger cones to get the mineable resource. He looked at me as though I was an escapee from a lunatic asylum, and declared, "just use rectangles and knock off about 20% to trim the non-existent corners". David passed away unexpectedly this year at the premature age of 56, and if there is any wisdom from him that I shall remember, it is his simple statement "just use rectangular blocks" to estimate deposit tonnages.
The same applies to tonnage footprints that a drill program will sample. Good management teams will publish a proposed drill plan that correlates with other data sets such as geophysics, mapped geology, and geochemical or surface sampling values. Such drill plans are subject to revision when core logging reveals unexpected geology in the third dimension, but in general they allow you to estimate the tonnage footprint of the Big Anomaly that will be put to the test. Orebody and tonnage footprint arithmetic is simple: it is the sum of all rectangular volumes in cubic metres, each multiplied by the specific gravity of the expected host rock. In the case of Kaituma, we can see 4 fences of drill holes straddling about 4 km of the radiometric anomaly on the Kaituma West license, and about 1.5 km of strike straddled by the two fences on the Kaituma East block. The fences look like they will cover about a 600 metre width of the anomaly.
Mike Collins has suggested that the host rock has a specific gravity of 2.5, which is slightly less than the 2.65 SG established for Extract's Rossing South (Husab) deposit. So the Kaituma West tonnage footprint is 4,000 m strike x 600 m width x 120 m depth (subtracting 30 metres for the depleted saprolite at surface) x 2.5 specific gravity equaling 720 million tonnes, while the Kaituma East tonnage footprint is 1,500 m strike x 600 m width x 120 m depth x 2.5 SG equaling 270 million tonnes. Together they total a tonnage footprint approaching 1 billion tonnes.
For such a tonnage footprint to be meaningful it must be tied together with geological datasets that support a hypothesis that the Big Anomaly corresponds with a zone of potentially economic mineralization. Mike Collins and Paul Gray are arguing that this is the case at Kaituma, which one might describe as the "promotion". But when the market's glass is half empty, the expectation is that drilling will reveal that the leucogranite is mildly mineralized with U3O8, running perhaps 10-100 ppm, and occasionally spiking to 300 ppm, which does not constitute Big Discovery.
Through our tonnage footprint calculations we have manged to skirt the securities rules that forbid visualization of anything whose existence has not already been confirmed by actual results. But how can I declare that results such as 10-100 ppm intersections turn the Big Anomaly into a Big Nothing and likely render my nickel private placement bet into a loss? Evaluating the economic implications of the grade in a drill intersection is difficult, but not impossible. It is my view that the typical retail investor has no idea how to go about visualizing the financial implications of drill results, which is a reason the junior resource sector is lacking an audience these days. Instead, terrified American households have a record $8.7 trillion parked in bank deposits earning less than 1%, deposits that back the credit default swaps American banks have written to insure full repayment of European sovereign debt, credit default swaps the private sector has loaded up on in a massive bet against Europe which the American taxpayer will have to make good on if Europe collapses.
Overcoming the knowledge gap that keeps retail investors away from junior resource sector discovery plays will require some work, but that is in fact what I am doing writing this long piece about a junior whose drill results will likely kill its Big Anomaly. Once again we have to engage in a visualization exercise that company executives are forbidden to do on our behalf, and which independent qualified professionals such as mining engineers will not do until the junior has spent millions on exploration work. This visualization exercise involves quantifying the cost side of the equation that represents the primary method by which the economic value of an orebody is defined, namely the discounted cash flow model.
Obviously in the absence of information confirming the existence of a uranium deposit at Kaituma it seems premature to consider the cost of mining an imaginary deposit, but in fact that is exactly what economic geology requires us to do. Economic geology is a blend between physical geology, which seeks to establish the geometry of a deposit, and mine engineering, which seeks to establish the cost of the mining plan optimal for the geometry of the deposit. Sadly, the junior exploration industry is filled with executives who are pure geologists divorced from any minimum economic parameters that define an anomaly worth testing, and with mining engineer types who cannot see what exploration results have not already made blatantly visible. The first type wastes capital on targets whose nature and tonnage footprint have minimal chance of delivering an economic deposit, and the second type wastes opportunity by complaining about the commercial inadequacy of the mineralization delineated to date. The geniuses within the junior resource sector are those who generate and test Big Anomaly targets that have a reasonable chance of turning into a valuable mine.
When contemplating a bet on a Big Anomaly investors can expect only geological mumbo-jumbo from the junior's geology atuned executives, and nothing from the engineering type executives who are terrified of being stripped of their credentials for making statements that are not verifiably backward-looking, which hurdle by definition is never achieved by a Big Anomaly play. However, both types offer important clues by exploiting a loophole the regulators have not yet closed in their zeal to make discovery exploration as uninteresting and ungratifying as buying tickets in the provincial lottery, that reprehensibly regressive tax to which no Point One Percenter is ever subject.
This loophole is the "analogue", the similar deposit about which commercial exploitation information has been established, either through an operating mine or through a third party analysis such as a PEA, PFS or FS. Using an operating mine as a source of cost structure information is rare, because operating mines are typically owned by very large companies which are not required to make detailed disclosures about specific assets, and typically hide their true costs behind output unit based figures whose true nature cannot be ascertained because grade mined is a secret variable (ie $/oz instead of $/t), and because often by-product metals of unknown grade, recovery and selling price are used to reduce the published cost numbers. Technical reports about the feasibility of a project generated by independent qualified professionals, of which more than 500 have been published since 2008 on behalf of Canadian resource juniors, are a relatively new resource for the retail investor, one that hardly anybody has started to exploit. But these "analogy" linked reports are a powerful new tool unregulated observers can use to visualize the economic value of the physical deposit the geological data allows us to visualize as the outcome of a Big Anomaly.
In the case of Kaituma the Argus June 2012 Corporate Presentation refers to the Rossing South (Husab) deposit owned by Extract Resources Ltd which has controlled the Husab license since 1996. Although Rossing South is only 8 km south of the 300-500 ppm U3O8 Rossing deposit, which Rio Tinto put into production in 1978 at a rate of about 12 million tonnes ore per year, producing about 8 million lbs U3O8 annually, Extract did not discover the deposit until it drilled in 2007. The target was generated by a RAB sampling program (rotary air blast -- shallow holes) which kicked anomalous uranium values within the 30 metre cover consisting of calcrete, alluvium and leached saprolite. 3 RC holes in 2007 penetrated the altered leucogranite (alaskite) bedrock which yielded assays up to 100 ppm U3O8. Followup drilling yielded the discovery hole of 100 m grading 265 ppm U3O8. Subsequent drilling yielded solid intervals such as 158 m of 660 ppm U3O8 ($73/t rock value at $50/lb U3O8) as well as shorter high grade intervals such as 21 m of 3,920 ppm ($432/t rock value). In August 2011 as part of its definitive feasibility study Extract published a proven and probable resource for Zones 1 & 2 of the Rossing South deposit.
|Project Resource Estimate - Husab - Zones 1-2|
|Aug 10, 2011||NI 43-101||Martin Spivey, Extract Resources Ltd||Cutoff: 100 ppm U3O8 |
|Metal||Grade||Recovery||Contained Metal||% of GMV|
|Proven Reserve||62,700,000||$65/t||Uranium||0.057%||100.0%||78,651,975 lb||100%|
|Probable Reserve||217,300,000||$57/t||Uranium||0.050%||100.0%||241,446,041 lb||100%|
|All Categories Spot||280,000,000||$59/t||Uranium||0.052%||320,098,017 lb||100%|
|All Categories LTA||280,000,000||$58/t||Uranium||0.052%||320,098,017 lb||100%|
|Spot Gross Metal Value||Market Cap as % of Net GMV||Spot Prices Used|
|LTA Gross Metal Value||Market Cap as % of Net GMV||LTA Prices Used|
|$16,242,395,770||11.4%||3 Year Average: Uranium $50.74/lb|
The Rossing South analogue helps us visualize in physical terms what the Big Anomaly at Kaituma might turn out to represent. Within that 1 billion tonne footprint Argus is testing with its six fences of shallow drill holes there could be several zones of continuous leucogranite hosted uranium mineralization running 300-600 ppm U3O8 whose total tonnage approaches the 300 million tonnes that will be developed at Rossing South through a 40,000-45,000 tpd open pit mine. But how do we assign an economic value to such a potential outcome?
On May 25, 2012 ASX-listed Extract was delisted after a successful AUD $8.65 takeover bid by a Chinese controlled company which first took out Extract's AIM-listed large shareholder before making a "see-through" offer that acquired the rest of Extract on effectively the same terms. Extract last traded at $7.35 on the inter-listed TSX, giving Rossing South and the other deposits within the Husab license an implied value of CAD $1.85 billion based on a 100% net interest and 252 million shares fully diluted.
Extract published basic information about the parameters of its definitive feasibility study (DFS), the extent of what is required by the Australian Stock Exchange is shown above in the slide from Extract's 2012 Indaba presentation. But the TSX listing required Extract to file a 265 page technical report by Coffey Mining on SEDAR, from which I was able to glean enough information to convert Extract's cost figures into cost per tonne ore numbers. This has enabled me to plug the Rossing South DFS numbers into my after-tax discounted cash flow model following a simplied format where I use life of mine averages, incur all capital costs in the first year, and charge zero tax until full payback of the capital cost. The yellow and purple lines show what the net present value per share would be for 10% and 20% discount rates at the different U3O8 prices.
The CAD $7.35 takeover price and associated $1.86 billion valuation suggests that the buyer had in mind a $69/lb U3O8 long term contract at the 10% discount rate, at which yellowcake price the Rossing South mining plan has an internal rate of return of 30%. If Argus were to come up with an identical discovery with a similar cost structure, the equivalent buyout price with 100 million fully diluted shares would be $18-$20 per share.
In reality if Argus were to turn Kaituma into a Rossing style uranium discovery with similar scale, the tonnage, grade and cost structure would not be the same as Rossing South. However, because the geological context of the Kaituma Big Anomaly is similar, I can start out with a $2 billion dream target. As results arrive I can use my orebody arithmetic to estimate tonnages and associated grades, which I can stuff into my Rossing South discounted cash flow model, whose capital and operating costs I could also adjust to reflect the relative scale of Kaituma's emerging discovery. With a model like this I can very quickly see the economic value of an orebody I have sketched out on the back of a napkin with a bunch of rectangular blocks to which I have assigned grades based on the drill intersections. If Kaituma gives us long intersections of 100 ppm U3O8 suggesting a 300 million tonne deposit of 100 ppm U3O8, let's plug that tonnage and grade into my Rossing South DCF model to see what U3O8 price we need for the net present value to not be negative. My Rossing South DCF model suggests that at 100 ppm Kaituma would be a bust even at $100/lb U3O8, even 300 ppm would be a bust - we need 400 ppm plus grades for Kaituma results to move the stock price. So to be encouraged by initial results I will want to say intervals of 100-300 ppm that guide Argus management to focus followup drilling that finds zones grading 400-600 ppm, with the average dragged up by the presence of smaller intervals grading 1,000-4,000 ppm U3O8.
As I said, it is not easy to be a smart speculator in Big Anomaly discovery plays, but it can be done with a little effort. In doing this advance Big Anomaly work without actually recommending Argus as a buy to KRO members, I have put myself into a position where I can quickly recognize good results, and turn Argus into a Spec Value Hunter Buy recommendation. The price may by then be at $0.50, ten times higher than the stock can be bought before we know the outcome of the drilling program, but at $0.50 the Kaituma project will have progressed to the discovery delineation stage of of the exploration-development cycle, a stage that can take 12-24 months. An additional goal is to use my Big Anomaly Club narrative to educate my audience about how to do this early stage visualization, and equip them with the tools to do it on their own, so that ultimately their collective action creates a sort of wisdom of crowds that generates a consensus visualization of a project's potential outcome to which the market valuation can bounce back after a raid by today's trading culture which takes plenty and gives nothing.
As new discovery exploration data is generated I can keep adjusting the potential outcome, which is critical to effective use of my rational speculation model. The IPV chart ("implied project value") below shows the different development cycle valuation trajectories a Kaituma discovery could follow depending on the dream target outcome implications of drill results.
The blue fair speculative value channel corresponds to a $2 billion outcome, the yellow channel a $500 million outcome, and the red channel a $100 million outcome. The blue, yellow and red arrows are intended to show how the market typically over-values a project during the frenzy of an unfolding discovery, but once the limits of the discovery have been defined, which allows us number-crunchers to estimate the net present value for the projected mining scenario, the valuation tends to decline into the fair value channel associated with the projected outcome. During hot, glass half full markets we get excessive valuations ahead of a Big Anomaly's drill test, and when results start to arrive there is a tendency to way overshoot, sometimes achieving valuations equivalent to what the project would be worth when it is in production. We most certainly are not in that type of a market in mid 2012, but I believe this type of market will be back by 2013.
The tables above and below are offered here as an easy reminder of how the rational speculation model works. The key concept is that a bet on an uncertain outcome is fair if the payout matches the intrinsic odds of the potential outcome becoming reality. Obviously a bet is good if the payout is higher than its underlying odds, and a bet is poor if the payout is less than implied by the underlying odds. Investing in a junior that has generated a Big Anomaly it plans to make or break with a drill program is a speculation on an uncertain outcome, which is the same thing as gambling, except that in pure gambling new wealth is never created. All that pure gambling accomplishes is to reshuffle the ownership of existing wealth; a gamble on a Big Anomaly exploration play such as Kaituma may enrich not just me, but the world in so far that it needs additional uranium production to supply fuel to nuclear power plants. Argus is a classic example of this type of gambling, and it it pays out, wow, what a case study!
*JK owns shares in Argus Metals Corp