Southern Arc and Canada Nickel
Questions, questions, and more questions!
My first question in penning this report was where to file it. Is it Southern Arc Minerals Inc., or is it Canada Nickel Corp.? Well, Southern Arc is publicly traded (SA.V), so I’ll wait for Canada Nickel’s IPO before giving it first billing on the marquis.
When I first heard of Southern Arc’s new “Strategic Investment” in Canada Nickel, my immediate reaction was to build a list of questions. That’s what I do. I opened up my notebook, and began writing them down. Here they are, verbatim as they appear in my notebook:
What does it mean?
- wonderful opportunity/diversify regional risk
- something’s wrong in Indonesia
- CoW [contract of work for Taliwang on Sumbawa Island] not working out
- Results are poor – prospects not good – redirect
- losing faith
- losing focus
- majors no longer on the line
What will it cost?
- robbing Peter to pay Paul
- no longer funding Indonesian projects
- diversion of mgmt. energies – more delays
Timeline for SA in CNC?
- quick double, then run?
- longer term
Further financing for CNC?
- PP – brokered?
Next stage of financing for SA?
- Lemonga
- Pelangan
- Selodong
Lombok CoW [contract of work for Lombok Island properties]
CNC
- neighbours/drill results/scope of exploration
- historical/compliant resource – closest mine
- infrastructure
- power
- water
- labour
- access roads
- port/rail transport
- NGOs
- native issues
- environmental concerns
- recent permitting experiences in the area
Staffing
- geos – bios in detail with records of achievement
- budget
- lay explanation of testing to date
- correlation with drill results – confidence levels
- compare in size to NOT.V
Why is current operator not moving forward alone, if this is so good?
How will current SA personnel be involved, and who?
My introduction to the story
My purpose here is to put some flesh on what has already been shared in the July 8th News Release. Of course, News Releases are extremely limited in what they can say. On the other hand, I am free to give you my full and frank impressions of this opportunity. Unless specifically referenced to others, my comments should be taken only as my own. I am not your personal financial advisor, and hence, encourage you to do your own due diligence and to make your own assessment. As Al Korelin is wont to say, I’m not recommending that you buy shares. I’m not recommending that you sell shares. I’m just thinking out loud and sharing my impressions of what I see and hear. Whether or not you look more closely at this deal is not my concern. I would, on the other hand, encourage you to share your impressions and opinions (about Southern Arc’s investment and about my interpretation of the deal) in the comment box, below. My intent is to create a conversation that leads to improved due diligence. This is a forum for promoting that conversation.
Please also note that I was offered, and accepted, the opportunity to personally participate in the $0.35 share offering referred to in the July 8th News Release. I am a ‘very small’ shareholder in the new company, Canada Nickel Corp. I have also been a shareholder of Southern Arc for more than a year. I’m still not clear on how to remain free of being criticized for a conflict of interest in writing such an article. Of course I’m biased. How could I not be? On the other hand, when I’ve written favourable pieces on companies in which I have not invested, I’ve been criticized for not putting my money where my mouth is. Sometimes, you just can’t win. Someone once wrote to me on this dilemma that I should not trouble myself with what others may think, but to stay true to myself and to honour the integrity left to me by my late father, and to just let the jerks and naysayers say what they will. Works for me. You be the judge. I hope you will receive my comments at face value. If not, please stop reading here, as there will be nothing of value for you to follow.
By virtue of my investment in the new private company, you already know the general direction of where this is going to conclude. This said, let me start at the beginning, and walk through what I’ve learned, both about Canada Nickel Corp. and about the potential impact on Southern Arc stemming from its investment in this new venture.
The Project
In a joint venture diamond exploration with De Beers, Diamondex Resources (DSP.V) flew magnetic surveys over a large area in north central Ontario (approximately 275 km. by road north of the TransCanada Highway). The De Beers’ Victor Diamond Mine is located about 65 kilometres to the east. The Norton Lake nickel mine development site is located about 80 kilometres to the west.
In 2007, Noront Resources, also a diamond hunter, made a nickel discovery in this region in the lowlands to the west of James Bay. Noront’s Double Eagle deposit has been characterized by some as the most significant worldwide nickel discovery since Voisey’s Bay (Labrador). One of Noront's holes yielded: Nickel at 7.9%; Copper at 3.4%; and PGE at 18.3 gpt, over a width of 35 metres. At then prevailing metal prices, this represented a gold equivalent of 3 oz. per tonne. Ounces... not grams. This discovery created a ‘staking’ rush in the general area, which was then dubbed the Ring of Fire.
Back in the 1980s, Inco flew magnetic surveys over all the known greenstone belts in Canada. Someone in still earlier times had arbitrarily drawn a ‘dotted line’ to signify the eastern edge of the Superior Province (a geologic region of high mineral interest). As a result, Inco didn’t fly their surveys to the east of the dotted line in the immediate area of the so-called Ring of Fire. As it turns out, that line was drawn too far to the west. The Inco survey, then, failed to identify a previously undiscovered greenstone belt to the east which has now been largely (and quietly) staked out by Diamondex. Click here to see the Inco survey map. (You will need Adobe flash player to view this map. If not already installed on your computer, you can download it free here.)
Looking at their own proprietary data, Diamondex geologists and geophysicists reviewed what was happening in the Ring of Fire, and concluded that exploration activity in the area was focused only on the western edge of this newly identified greenstone belt. They determined that this ‘reverse C’ shaped greenstone belt measures approximately 250 km., from end to end.
Having completed the magnetic survey, Diamondex sent out staking crews, between November 2007 and February 2008, laying claims on what has, so far, amounted to some 407,400 acres. Already, Diamondex has amassed the largest landholding in the district.
Current holdings can be grouped into three general areas, Area 1 to the north, Area 2 to the east, and Area 3 to the south. Click here to see maps of the Ring of Fire and Diamondex holdings. Area 1 is contiguous to the Ring of Fire where significant activity by dozens of explorers is under way (with over $60,000,000 budgeted to be spent drilling over the next 4-6 months). It is notable that in the past two weeks, one of those operators, Probe, announced that it has made a drilled VMS discovery on a thin sliver of staked land situated directly in the middle of two much larger blocks held by Diamondex in Area 1. Assays are expected within a couple of weeks. More market attention on this area should play a supporting role for any good news that may come out of the Diamondex/Canada Nickel camp.
Recently, Diamondex flew a VTEM survey over Area 2, to the east. This is a helicopter survey, developed in 2002 by Geotech Ltd., and performed by the same company. When the results of this VTEM survey are superimposed on the magnetic survey results, coincidental hot spots are identified as ‘bulls eyes’, indicating where to place the drill bit. These hot spots are called ‘conductors’. Apparently, the combination of the two tests generates a very high hit rate for good mineralization.
In any event, these combined surveys identified thirty-five (35) high priority target conductors in just one of the three areas of claim held by Diamondex. Click here to view Area 2 Conductors.
Using these same two superimposed surveys, Noront has identified seven (7) such conductors on the discovery ground. When Noront made their big move last year, the market cap started at $15 million and went to $800 million. Even if you look at half of that gain as promotion-driven, and half resulting from the biggest discovery since Voisey’s Bay, that’s a pretty good move up.
Noront has just released an NI43-101 resource estimate of some 2.9 million tonnes (indicated and inferred), based on just 29 holes in the range of 225 metres each. The timelines to get to this resource estimate stage are much shorter than we’ve seen for SA in Indonesia. Different deposit type. Different requirements. In sum, this estimate shows almost $2 billion in value, in situ, based on current prices. That’s approximately $685/tonne. For comparison purposes, consider this in the context of, say, $30/tonne for Southern Arc’s Selodong prospect over perhaps 200 million tonnes (my estimates to date). While this ballpark figure for SA is almost 70 times the tonnage of that for Noront, the Noront value per tonne is about 23 times that for SA’s Selodong. Moreover, the Noront deposit involves a much lower cost factor, resulting from its much smaller gross size in total tonnes to move. Finally, the Noront resource estimate is derived from just one of seven identified conductors on their property. As I continue to crunch these numbers, I’m more and more getting a warm and fuzzy feeling about Canada Nickel and the 35 conductors identified on just one of its current three claim blocks.
Mineral targets include:
- Nickel (a major component of stainless steel);
- PGE (Platinum Group Elements);
- VMS (Volcanogenic Massive Sulphide – mainly copper and zinc, but also silver and gold);
The area is not one of outcroppings available to guide the search for places to drill, so in advance of new VTEM technology, and owing to the error in marking the boundary of the Superior Province formation, this important greenstone belt was overlooked. The greenstone area is covered by a thin layer of limestone that, with the airborne survey work, becomes transparent. Survey technology allows the VTEM search for conductors to dive up to 800 metres below the surface.
Diamondex has historically been a diamond explorer. Diamonds are not a very popular business to be in these days, because of the great expense and time delays in advancing a project. Over the years, Diamondex has grown to about 180 million shares, and trades at under $0.20, so it is not currently amenable to financing. The company will ultimately need to be reorganized.
Diamondex will remain the operator of this project, possessing of an already established and highly qualified technical team, and an intimate knowledge of the project area. Technical team members include high level specialists formerly with Falconbridge and Xstrata. Canada Nickel has advanced $1.1 million enabling Diamondex to conduct the VTEM survey over the remaining block Areas 1 and 3. Results should be in hand within 90 days. Canada Nickel is planned to be taken public in the Fall of 2008, and a drilling program will be put in place to be completed between the last quarter of 2008 and the first quarter of 2009. Perhaps eight targets in each of Areas 2 and 3 will be drilled, starting in November.
On the subject of infrastructure, power, access, water, labour, and transport are key considerations. Power lines could be brought in without too much trouble. As well, diesel could be shipped in via James Bay, as it is for the De Beers project. Road access, given the flat terrain, should be no major challenge. Water is readily available. Labour, aside from senior management, should also be readily accessible from the region. Transport options include adding about 70 km. of new road to the east to a railhead linked to Moosonee from Attawapiskat, or to south to the main rail line just above the TransCanada Highway via road from Ogoki.
The Deal
A major mining company had approached Diamondex with an offer to do a deal on this property. The fine print, however, would have provided the opportunity for the major to outspend, leaving Diamondex completely diluted out of its stake in the project.
One of the Board members for Diamondex (John Greig) is a long-time acquaintance of John Proust. He introduced the deal to John who reviewed it, and had an independent consultant study the project. His response was to make an offer that would not pose the risk of Diamondex being marginalized. The proposal was for Canada Nickel Corp. to earn a 51% interest through a three-year $25 million investment program.
Seeing how John Proust converted a 21% project interest for another of his companies (Canada Energy Partners – CE.V) into 100% through a merger, I won’t be surprised to eventually see something of the same type for this (ad)venture.
Canada Nickel has negotiated a 40,000 sq. km. area of interest with Diamondex, meaning that any discoveries by Diamondex within that space will be part of the 51:49 deal with Canada Nickel.
Any diamonds found in this project are not included in Canada Nickel’s interest, but will go to Diamondex.
Of the initial $6.1 million investment by Canada Nickel, $5 million is to reimburse Diamondex for a share of its costs to date. The other $1.1 million is to cover the cost of the next VTEM survey. The planned IPO for Canada Nickel is expected to cover the second year’s exploration budget, meaning the company would be fully funded for the next 18 months. Refer to the November 8th News Release for a budget overview.
John Proust personally secured the deal by writing a commitment cheque for $1.1 million. As he began to shop the deal, he found more than enough interest to make it work. In fact, a number of high net worth individuals were prepared to put up a million dollars each, whereas he was looking for blocks more in the range of $100,000. Understanding how attractive this project was to people, he began to think about Southern Arc’s potential to make a connection to the deal.
This deal for Southern Arc was approved unanimously by Mike Andrews, Doug Leishman (the other SA Board members) and Hamish Campbell, VP Exploration. As I consider the group dynamic, knowing that Hamish Campbell will not be involved in the Canada Nickel project, and knowing how committed he is to the Indonesian projects, I cannot imagine for a moment that he would tolerate any movement of capital that would cripple his own exploration efforts. Word is that he’s 100% in support of this investment.
Here’s where it starts to get a little tricky, as I’m not privy to the SA backroom stuff, and rely much on reading between the lines. It’s important to understand that John Proust is as tight-lipped as they come. This said, here’s my read… and my read only.
Southern Arc is currently sitting on a treasury of some $10.7 million. The exploration program for 2008 is on schedule and well under budget. The Selodong project, alone, is expected to come in at $3.3 million under budget. The monthly burn rate is estimated to drop from some $500,000 to about $250,000 in the next month. The Company’s $5.3 million investment in Canada Nickel seems not to concern John Proust as regards Southern Arc’s future funding needs. When I ask myself why and how this could be, the potential answers include:
- Lemonga (one Southern Arc prospect located in Taliwang, the property for which the Contract of Work (CoW) negotiations have just been successfully completed) will very quickly be monetized. When I asked John how soon he anticipated monetizing Lemonga, he said, “I’m not going to answer that question.” I took this to mean as soon as possible (my words only). My understanding is that the only remaining discussions on this CoW are between two of the levels of government, as regards their relative participation in the profits from this CoW. Southern Arc’s side of the equation is done, awaiting only ratification by the parliament, likely soon after session opens in August;
- The Company is likely to partner with an outside group in developing the Pelangan prospect (a key part of West Lombok, for which the CoW is in the works for the next quarter). When I asked John how soon he anticipated partnering with someone to advance Pelangan, he said, “I’m not going to answer that question.” I took this to mean as soon as possible (my words only);
- With the current stage of Selodong work nearing completion, and the Lombok CoW not yet in hand, intensive drilling is pretty much on hold until the CoW is secured (and, of course, I expect one of a number of majors to enter the picture shortly thereafter). Infill drilling cannot commence before the CoW is secured. Once the governments work out their internal discussions on the Taliwang CoW, it is hoped/expected that sit-down meetings on the Lombok CoW will commence without delay. Time will judge. Recent drill hole results (SLD023) confirm the northerly dip in the ore body. This is a good thing for two reasons. First it says that the geologists' modeling is accurate in this regard (i.e. they know what they’re doing). Second, it supports the continued thesis that there is a connection through the three porphyry targets, Blongas I, Blongas II and Montong Botek. The empty result for SLD022 is not inconsistent with this thesis. That hole was too shallow, and too far to the east. Thinking has the deposit trending along a ridge to the north-northwest. Continued work deeper, as well as further west from SLD022 will be needed for confirmation of the suggested model;
- This investment in Canada Nickel is short-term, and hoped to be flipped for a double or better in the Fall months after an IPO; and
- John Proust could be a reckless and irresponsible guardian of shareholder interests.
I’m going to make a stretch here, and discount this final option considerably. John Proust is Southern Arc’s largest shareholder, controlling more than 10 million shares, and stands to lose big if caught holding the bag. From what I know of John Proust, it just ain’t gonna happen. He’s a control freak, and he plays to win. Losing on Southern Arc is not an option. Suggestions of abandoning Indonesia don’t match with what amounts to (and I quote) "several hundred thousand" shares bought by John Proust and his wife since last Thursday morning.
In effect, Southern Arc will simply be a silent partner in Canada Nickel. Operationally, the company will continue to focus on its projects in Indonesia. This investment is more a vehicle for parking cash while waiting for the right opportunity to use it and at the same time to generate a return on the cash instead of leaving it in some low interest-bearing account. I expect that the IPO on Canada Nickel will likely be at $0.70 or better (depending on VTEM results); hence, it should yield a doubling of the invested capital without Southern Arc having to go to market and dilute the share count any further.
At the same time, moreover, as the value of the new company grows, so will SA's stake. The program in Indonesia is going ahead as originally planned. Hamish Campbell, the VP Exploration, has managed to build improved efficiencies in his work, realizing considerable savings, which has generated excess cash, so to speak. All that is needed is $2.5 million to complete this year's program. They cannot spend the money faster at this time. The Lombok CoW must first be secured. There is only so much they can do each day, even with some 100 personnel on the various exploration sites. This investment does not pose any threat to supporting ongoing work in Indonesia. In fact, this investment should add one more funding option in support of continued operations in Indonesia. Is this a common practice among junior exploration companies? Not on your life. I’ve had a couple of people whose opinions I respect suggest that this was the dumbest move a junior could make. Maybe yes. Maybe no. As always, time alone will judge. John Proust is a bit of an iconoclast. His move into Indonesia three years ago is ample evidence of that. This new investment is further evidence of his preparedness to think ‘outside the box’. He took a fair measure of criticism when he went to the market for financing late last year at $1.20. Half-way into this year, with share price hovering around $0.40, that move looks brilliant (except perhaps to those holding those $1.20 shares). If he had waited a few months, as some had suggested, that financing would likely have involved close to thirty million new shares, instead of ten. Second guessing is a popular activity these days. That's just human nature. I expect no changes in human nature anytime soon.
The meaning of this latest development has not quite yet sunk in and some Southern Arc shareholders are understandably confused. As time passes, I expect they will come to realise that this is a significant positive move for SA in a number of ways. Nothing changes fundamentally, except for the creation of an opportunity to diversify, should there be an interest in doing so. Indonesia is where SA stands, and their operational focus has not shifted away from Indonesia. This is not an attempt to move on in the face of some unexpected, undeclared difficult situation in Indonesia. Everything remains the same and each activity in the various exploration programs is being executed according to the schedule drawn up back in late 2005. Only the CoW negotiations have faced some delays, as have been discussed ad nauseum, resulting from both natural disasters and the difficulty in getting thirty disparate Indonesian officials together at the same table at the same time (a logistics difficulty only). Each drill hole has been placed as planned in the face of existing data. Results are not too much unlike what had been expected, thus pretty well confirming expectations, which have always been very high.
John Proust came up with this strategic investment idea after he had completed the subscription for Canada Nickel. With an eye to protecting SA's best interests, he ended up bumping subscribers from Canada Nickel to enable SA to participate in this investment. The Canada Nickel venture was not short of money, so SA’s participation was not needed. This was a deal that came to John Proust, personally. John Proust, in turn, made the offer for SA’s participation to the independent directors of Southern Arc. This opened one option by which to diversify away some of the nagging perceived regional risk and at the same time to participate in a potentially major, and previously unknown, nickel deposit. At the same time, it would provide an opportunity for generating a cash injection for SA without further dilution of shares.
SA will continue to advance its properties in Indonesia, will secure the CoWs, and will monetize the better prospects. There is a timetable set out for all of this, and they are generally meeting the timetable quite unfettered. In short, SA is not acquiring Canada Nickel; it is simply an investor. This is not an acquisition. Other than in the creation of a technical oversight committee (likely involving Mike Andrews, an SA board member), SA will have no hand in Canada Nickel's operations.
Cash on hand is sufficient for SA's current work commitments. Money raised through Canada Nickel, as a shareholding, will provide funding for SA's activities in Indonesia. There is no intention to carry out further financings for Southern Arc. Money will be generated from investments, of which one is Canada Nickel, and from the planned monetization of SA's assets in Indonesia.
When I back up a few steps to consider the big picture here, I have to look at John Proust. When you boil it all down, on the business side of the picture, Southern Arc is John Proust. So, what’s he about? In my considered view, he’s about three things: finding new opportunities to make money; ensuring multiple options going forward; and reducing risk. The Canada Nickel project is an opportunity. This investment gives SA options. The regional diversification reduces risk. Is this move without risk? Nope. Few, if any, are. All angles considered, however, I like the combination, and have placed my marker on the table. But that’s just me. You’ll have to do your own due diligence and make your own call.
Best,
Kevin Graham
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The sole intention of this report is to provide investment-related information and opinions. The writer holds a position in the featured security and may increase or decrease such position without prior notice. All content presented in this report is obtained from sources deemed reliable, but its accuracy is not guaranteed. Use of this information is at the risk of the reader, without responsibility on the part of the writer. The writer is not a licensed investment advisor, nor a geologist and does not offer personalized investment advice. Please do your own due diligence.