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Michael O’Brian: Gold Isn’t All That Glitters (GLD, GDX, GDXJ, RIO, IVN)

November 9th, 2011

The Gold Report: Michael O’Brian has learned to apply some philosophies as an avid art collector to his successful investment career: an investor should always be in it for the long term. O’Brian’s principles have led him to look beyond gold (NYSEARCA: GLD) to copper and some special projects for long-term gains. In this exclusive interview with The Gold Report, O’Brian, president of private investment firm Nairbo Investments, talks about why he’s just as likely to sink his resources into a copper project as he is into gold.

The Gold Report: How does your experience in investment banking affect your decision-making?

Michael O’Brian: As an investment banker, I participated in the financing of hundreds of junior resource companies in many parts of the world, including many that went on to become very large and profitable, such as Diamond Fields Resources (which was subsequently acquired by INCO) and First Quantum Minerals Ltd. (TSX:FM).

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TGR: Diamond Fields was an exploration company run by Robert Friedland that found the Voisey’s Bay deposit in Canada.

MO’B: Yes. The one item that has always affected my investment decisions is people. The most important aspect of investing is the reputation and experience of a company’s chief executive.

TGR: You meet, talk to and get to know the executives before you make an investment in a company?

MO’B: I really do like to talk to the chief executive and get to know the people who are in charge.

TGR: What if you met the CEO, whom you liked and felt you could trust, yet the CEO didn’t have a lot of experience in the junior resource sector. How do you handicap that?

MO’B: I would pass on the opportunity in almost all cases.

TGR: What percentage of your portfolio is in resource equities?

MO’B: About 60%.

TGR: What’s your perspective on the economic crisis in Europe? Is the Eurozone destined to fail?

MO’B: The problem will get solved in the months ahead one way or another. However, there is no question that participation in the euro countries will change. That change will result in much lower long-term growth. This, in some degree, will have a negative effect on the U.S. and Canadian economies.

TGR: You expect a form of contagion?

MO’B: Yes. The problem is going to get fixed, but it’s going to take years to get back to normalcy.

TGR: Could the countries scrap the idea of a single currency and a single political entity?

MO’B: In my view, the euro will continue to exist, but there will be much lower growth throughout Europe. We will have to rely on emerging countries such as China, India and Brazil to pick up the slack.

TGR: Do you foresee stagnant economic growth like Japan has had over the last 15 years?

MO’B: Yes.

TGR: Is gold better served by chaos in the European economy?

MO’B: Gold is ultimately better served if there is a stable long-term European economy. Short term, there may be wide fluctuations with gold as Europe sorts out its current dilemma. We have problems in the U.S. as well. Gold is better served with more stable economies.

TGR: How are you using the daily market volatility to your advantage?

MO’B: I’m averaging down on certain investments that I believe to be seriously undervalued because of the problems. There seem to be so many traders and investors who have literally disappeared from the market, resulting in major investment opportunities for investors looking for long-term capital appreciation.

TGR: How often are you making transactions?

MO’B: I’m not trading every day. I will only come into the market as I see exceptional opportunities.

TGR: Where are you finding those opportunities?

MO’B: I like companies that financed earlier in the year, have cash in their treasuries, yet the prices of their stocks are trading substantially below their financing prices even when they are achieving excellent results as a result of exploration drilling.

When the markets return to normalcy, there is big potential for appreciation. There is also the potential for a number of these companies to be acquired by larger companies because they are so undervalued.

TGR: Do the companies that fit that description have liquid stocks?

MO’B: Yes, absolutely.

TGR: Is that key?

MO’B: It is important. There are opportunities that do come up from time to time with companies that do not have a lot of liquidity, but for the most part, I like to know that I’m going to be able to sell my position under any circumstances.

TGR: We’re starting to see an absolute bottom for junior equities (NYSEARCA: GDXJ) in the resource space. How long before we start to see this sector rebound?

MO’B: We’re basically at the bottom at this point. There are substantial opportunities in today’s market.

TGR: What are some other factors you use to choose between these opportunities?

MO’B: I look for companies that can be successfully rerated as they add ounces from their major exploration drilling programs and, in some cases, feasibility reports that might be coming out. Also, I look for companies that are so undervalued that they have the potential to be taken over.

TGR: Let’s look at the commodities side of the equation. Is your investing strategy for juniors at $1,500/ounce (oz) gold the same as it is at $1,700/oz?

MO’B: It is the same. Quite honestly, it would be the same if gold were $2,000/oz.

TGR: How far would the gold price need to fall before it starts to affect your decisions?

MO’B: That price would be $1,100/oz. Equities are trading at such a low multiple presently that I am more inclined to be buying gold equities than gold.

TGR: What other principles do you strictly adhere to when it comes to junior resource equities?

MO’B: A company must either be well financed or have the capability during difficult periods to finance. I also take into consideration the location of the property and that country’s political regime.

Infrastructure is also important. Having a good handle on the infrastructure is going to be needed for production decisions down the road. This would eventually show up in a prefeasibility or feasibility report, but a company should have a pretty good idea from an early-investment point of view. I also like to know when and what kind of exploration drilling program is underway and how far out a prefeasibility or feasibility study is.

TGR: Do you need at least a preliminary economic assessment before you invest?

MO’B: No.

TGR: All things being equal, what type of project would you be most likely to invest in: gold, silver, copper, zinc or nickel?

MO’B: Quite honestly, at this time I am more inclined to be invested in copper, but I like gold and silver. There are other commodities that I like as well that aren’t as widely invested in, such as graphite and manganese. I’m always open to specialty projects.

TGR: Are you telling me you would choose a copper project over a gold project at this point?

MO’B: There are so many factors. I’d probably invest in both. Goldman Sachs came out recently with a report saying that copper may be unimaginably high in three years. It is very difficult to compare copper to gold because investors buy them for completely different reasons. It’s important to have positions in both.

TGR: What’s one thing you want to learn at every site visit of a mining project?

MO’B: What I get from most site visits is that I learn more about the management of the company. A properly managed site visit where the company prearranges to have its geologists and engineers at site to speak to the group and has a whole agenda prepared and followed in a timely fashion is indicative that the whole company is run in that same efficient way.

TGR: Do you like to have a look at the core?

MO’B: It’s interesting, but not crucial. I rely on what the geologists are saying about the core.

TGR: Could you tell us about a site visit that went wrong and how that experience kept you from becoming an investor in that company or prompted you to sell your shares?

MO’B: I remember one occasion in Africa back when I was financing companies. I was unimpressed with the way the whole event was arranged and conducted. As a result, we passed. As it turned out, it did not prove to be a good experience for the investors who did invest.

TGR: And it can be something as minute as not arranging things efficiently on the tour?

MO’B: That’s right. Or not having the right people show up, like the geologist or the engineer. These are important factors.

TGR: What are some companies that have made the cut?

MO’B: I’ve invested in Northern Graphite Corporation (NGC:TSX; NGPHF:OTCQX). Not a lot of people know anything about graphite. As an example, there is 20–30 times more graphite in a lithium battery than there is lithium. Northern Graphite has a proven property in Ontario near North Bay.

The company expects to complete its banking feasibility report by year-end. It currently has a pilot plant running. Northern Graphite’s deposit is large-flake with high carbon content, which is very important in the graphite world. I understand the capital cost of taking the project into production will be in the $80 million (M) range. I expect the financing will come together within the next few months and that the project could be in production in approximately 15 months. The shares are currently an excellent value as the company trades at a market cap of only $30M.

TGR: China controls 80% of the world’s supply of graphite, but it doesn’t have any of these large-flake deposits common to Northern Graphite’s Bissett Lake project in Ontario.

MO’B: You are correct. China’s production primarily is being used for its own purposes. It has also recently added a tax for any export of graphite.

TGR: Mackie Research Capital Corp. has a 12-month target of $2.10 for Northern Graphite, according to an August report. It was recently trading at about $0.92.

MO’B: My belief is that once the feasibility is completed and the financing is in place, the shares could trade materially higher than its target price.

TGR: Are there any others?

MO’B: Reunion Gold Corporation (RGD:TSX.V). This company has a major manganese deposit in the northwest district of Guyana. The company has 12 kilometers (km) of strike in a 40km zone and has large widths of high-grade mineralization. Reunion has an active drilling program underway with 140 holes to date. The company has six diamond drill rigs onsite, with plans to expand the number to eight soon.

TGR: Is the company going to have to rebrand that stock to make it more accurately reflect what it’s about?

MO’B: That’s coming next. The company raised $41M in a private placement priced at $1.79 per share this past April through BMO Nesbitt Burns. The shares are currently substantially below this price. I am looking for serious appreciation as the results become known.

Redhawk Resources (RDK:TSX; QF7:Fkft; RHWKF:OTCQX) is operated by a team of highly experienced professionals including Joe Sandberg and his technical group of geologists and engineers along with Stephen Barley, executive chairman, and a world-class advisory board. Redhawk’s property, Copper Creek in Arizona, has excellent infrastructure. Within 30 miles there is a mill and smelter. The interesting thing about Redhawk is that it had a resource calculation completed in 2008 containing 3.4 billion pounds (Blb) of copper. The company has been actively drilling over the last year and has increased its property size to 28 square miles. Redhawk has only drilled 20% of the property. In my view, there is a very good chance that the resource could be increased closer to 5 Blb.

Redhawk has completed important metallurgical work. The company hopes to achieve about 20,000 tons/day to produce about 150 million pounds of copper/year. I believe that there is potential to open-pit all or a portion of its property.

In my mind, Redhawk is a top takeover candidate. I know a number of major companies that are looking at its project at this time.

TGR: Could this become like the Anaconda copper mine, which was an open-pit copper mine in Nevada that was a prolific copper producer for decades?

MO’B: Yes, absolutely.

TGR: The stock is trading at around $0.40. Is that a good entry point?

MO’B: Absolutely. There are approximately 130M shares outstanding and much of that is held by institutions. In my view, Redhawk shares are trading at a very low market cap compared to the value that we may see near term.

TGR: Joe Sandberg, the company’s chief executive and president, is also a geologist. It is somewhat rare to have a geologist in that position. Does that give you a little bit of extra reassurance about what the company’s doing?

MO’B: Joe really knows what he is talking about. He’s been around for many years. Joe has also been able to attract other great talent to the Redhawk organization.

TGR: What about some junior gold stocks that you like?

MO’B: Colombian Mines Corp. (CMJ:TSX.V) has two major properties in Colombia, one of which is being drilled today. There are four rigs on this property, which is a potential heap-leach project. However, in my opinion, the real potential for Colombian Mines is its El Dovio project, which contains three major zones. Colombian Mines has completed a fair amount of trenching with absolutely fantastic results. It is currently waiting for drill permits and, once obtained, everything will change very quickly.

Colombian Mines has only 32.6M shares outstanding, which gives it a market cap of only $11M. The company raised approximately $7M at $0.70/share earlier in the year and has since slumped to the $0.38/share range. Incidentally, I should also mention that Nate Tewalt, the company’s chief executive, is also a geologist.

Stronghold Metals Inc. (Z:TSX.V; SDMTF:OTCQX; E9X:Fkft) has working capital of approximately $2M. The company has approximately 63M shares outstanding. Stronghold has a major drilling program underway at its Eagle Mountain project in Guyana. To date, it has completed 38 drill holes and has had excellent surface results. The first 11 holes intersected gold. To date, the company has 735,000 proven ounces containing 18 million tons of 1.27 grams per ton gold. The property has great potential and is open in all directions and in depth.

TGR: When you are not investing in resource stocks, you are an avid art collector. Is there anything you have learned as an art collector that you’ve applied to resources investing?

MO’B: Collecting visual arts is a passion of mine. My art collection has definitely appreciated in a fairly major way, but I have never bought art to sell. Collecting is something I enjoy. Art as a long-term investment is a major theme for me. I apply that same principle to my investments in the junior resource marketplace. I always take a long-term approach and add to my positions during market weakness. Whether it is resources or art, one should be investing for the long term. I am always looking for undervalued situations in both the art market and resource stock opportunities.

TGR: Would Diamond Fields be your “Picasso”?

MO’B: Diamond Fields was certainly a major win at that time. Incidentally, another Robert Friedland project that is similar is Ivanplats Ltd., a private copper, silver, palladium, platinum and nickel company with major discoveries in South Africa and the Democratic Republic of the Congo. Ivanplats is planning on completing its initial IPO in the 1st or 2nd quarter of 2012.

Ivanhoe Mines Ltd. (NYSE:IVN) was also a major win for me. I remember buying the stock in the $1–2 range some years ago. The shares are currently trading in the $22–23 range but have major upside potential. The company is considered a major takeover candidate.

TGR: Rio Tinto (NYSE:RIO) is probably the most likely company to do that.

MO’B: I agree. Rio Tinto currently owns 49% of the company and is restricted from making any further investment before Jan. 15, 2012.

TGR: Thanks for your time, Michael.

Michael O’Brian‘s career in investment stretches back to 1958 when he worked with the Bank of Montreal as an inspector throughout British Columbia. He later served as an institutional and retail representative with Pitfield Mackay Ross, now RBC Dominion Securities; a director and vice-president of Canaccord Capital; and president and chief executive officer of C.M. Oliver & Co. Over the past 12 years, O’Brian has concentrated on investing in natural resources and technology companies. He was a major shareholder in Gateway Casinos Inc., which was started with a group of investors for $2 million and sold 16 years later for $1.3 billion. Today, O’Brian is a director of numerous private and public companies. He is also is an active supporter of philanthropic pursuits and an avid art collector.

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DISCLOSURE:
1) Brian Sylvester of The Gold Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Gold Report: Northern Graphite Corp., Redhawk Resources Inc., Colombian Mines Corp.
3) Michael O’Brian: I personally and/or my family own shares of the following companies mentioned in this interview: all except Diamond Fields. I personally and/or my family am paid by the following companies mentioned in this interview: None.

Related: SPDR Gold ETF (NYSEARCA: GLD), Market Vectors Gold Miners ETF (NYSEARCA: GDX), Market Vectors Junior Gold Miners ETF (NYSEARCA: GDXJ).


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