Spec Value Hunter Comment - January 12, 2012: Recommendation Strategy for First Point Minerals Corp
First Point Minerals Corp was recommended as a Good Relative Spec Value Buy at $0.41 on December 30, 2011 based on an innovative corporate strategy whose success would revolutionize the world's supply of nickel, a critical alloying input in the production of stainless steel. The company is working to demonstrate that a naturally occurring form of stainless steel called awaruite, a nickel-iron alloy created during the metamorphism of obducted ultramafic rocks, can be profitably mined despite grades in the 0.1%-0.15% nickel range. The world nickel supply currently comes from high grade laterite and sulphide deposits with grades typically in excess of 2%. Despite the run to $25/lb in 2007 caused by a temporary supply squeeze, the foreseeable upside price limit for nickel is $9-$11/lb thanks to the ability of Chinese blast furnaces to make a modest profit in this price range by processing "nickel pig iron" imported from 2%-3% laterite deposits in the not too distant Philippines and Indonesia. China has a strategic interest in keeping the input costs of its stainless steel mills stable, and with its installed excess blast furnace capacity whose sunk cost has long ago been written off it has the ability to cap the price of nickel by processing nickel pig iron. The blast furnace operators may not make much money, but when nickel prices spike, China Inc will deploy them to protect its much bigger stainless steel industry and shield its domestic consumption from skyrocketing costs. That is the beauty of industrial policy wielded by a communist-capitalist hybrid acting on behalf of the world's most populous nation; the rest of the world must rely on a capitalist free-for-all whose efforts to form cartels it vehemently opposes, quite understandably because the success of such cartel efforts benefits only corporate shareholders. The downside for the nickel price is limited to the $4-$6 range thanks to the high costs associated with processing nickel laterite deposits using high pressure acid leaching (HPAL) which is sensitive to energy and chemical costs on top of mineralogical issues which can stymie large scale processing as BHP Billiton disastrously discovered at its $4 billion 50,000 tpd Ravensthorpe operation which it unloaded for $500 million to First Quantum. While there is still an outside chance of discovering an open-pittable sulphide nickel deposit such as Voisey's Bay in a remote location, there is little capital available for systematic exploration for such deposits whose prospectivity remains highest in regions with geopolitical and title challenges. The sulphide nickel supply future lies with expensive underground operations, all of which must incur the additional cost of smelting nickel concentrates. An alternative might be large low grade sulphide deposits such as Turnagain and Dumont, but these face the challenges of metallurgical complexity and environmental impact even if they can stabilize their energy input costs. The future of nickel thus resides in the $4-$11 range, with the profitability of nickel mines hinging on the uncontrollable dynamics of economic demand and energy cost cycles. What makes First Point very interesting is that it is trying to prove that it can mine very low grade awaruite nickel deposits with a stable cost of less than $4/lb, which would enable it to be a profitable nickel producer within the $4-$11 nickel price window, with a narrower $6-$9/lb long term window the likelier long term reality in a world of muted general inflation.
The edge First Point claims for its awaruite nickel concept is the simple mineralogy that prevails when the total nickel grade consists only of hopelessly non-recoverable nickel in the olivine lattice and grains of awaruite which are recoverable through a simple flow sheet of grinding followed by gravity and magnetic separation to produce a magnetite-nickel concentrate that can be shipped directly to steelmakers. Gravity and magnetic separation are heavy at the front end in terms of capital cost, but light when it comes to operating costs. Critical to this model are the absence of sulphides, which otherwise entail expensive environmental mitigation and the intermediary stage of smelting, and a uniform, sufficiently coarse grain size to keep grinding related energy costs at bay. First Point's initial project of this nature is Decar, located in central British Columbia not too far from rail and power, with the biggest obstacle getting First Nations on side with a large scale bulk tonnage mine reminiscent of copper porphyry mining without the sulphide related acid drainage headaches or concentrate to smelter shipping costs. Bankrolling First Point's vision is an unusual company called Cliffs Natural Resources Inc, which is unusual in that it has positioned itself to become the worst case supplier of raw materials to North America's steelmaking industry. Cliffs' primary business is the production of iron pellets and coking coal, but during the past couple years it has extended its supply ambition to include chromium from the deposits it acquired and is developing in the McFauld's Lake region of northern Ontario, and now nickel through its 75% option of First Point's Decar project in late 2009. Through its McFauld's Lake chromium and Decar nickel gambits Cliffs is placing multiple security of supply bets that 1) Kazahkstan and South Africa may not be geopolitically reliable long term suppliers of chromium immune to rising energy costs, and, 2) rising energy costs will wipe out the marginal laterite and sulphide nickel producers and raise the nickel pig iron lid above its current $9-$11 range. Rather than gambling on a future imbalance between supply and demand as mining companies stuck with 5-7 year lag times between decision and new supply are forced to do, with the inevitable risks of competitive second-guessing by their peers, Cliffs has chosen an out-of-the box strategy of investing in cost structures involving new supply sources where the cost structure will be relatively stable while that upon which the bulk of the supply industry depends goes ballistic.
During 2011 Cliffs initiated a 14,000 m drill program at Decar on 200 metre spacing, managing to get 35 holes representing 10,861 m done that cover a tonnage footprint approaching 500 million tonnes to a vertical depth of 230 m on the Baptiste zone before shutting down for winter. The first batch of holes reported in mid December yielded long intervals grading 0.128%-0.163% nickel, which is pretty low for a nickel deposit, but these nickel grades are something special which the market during its December tax loss selling misery entirely missed. In monetary terms these grades represent a rock value of $20-$30 per tonne at $8 nickel, which is pretty impressive when envisioning a 50,000 tpd mining operation. This scale, of course, is not in the league of Ravensthorpe, whose nickel output equivalent at Decar would require a logistically impossible 1,000,000 tpd. What made Cliffs' assay results special was that they were achieved with the help of a standard magnetic separation tool called the "Davis tube" which involves crushing and grinding a core sample to a mesh size comparable to what might be reasonable for a mine, and using the Davis tube to separate the magnetic portion which includes all the nickel-iron alloy grains except those too fine to be sufficiently liberated by the grind size to get lifted by the Davis tube's magnet. In other words, the very fine-grained awaruite nickel will be left behind along with the nickel embedded in the olivine lattice, so that when a fire assay is done on the concentrate, it will yield a nickel grade that is equivalent to the recoverable nickel grade. That Cliffs was able to produce long intersections grading 0.1%-0.17% consistently over assay intervals except where mineralization was clearly interrupted by later stage dykes is hugely important, because it demonstrates that the potential Achilles heel that could destroy the economics of Decar is not present.
The key to a gravity-magnetic separation based flowsheet at Decar is the consistent presence of awaruite nickel mineralization at a coarse enough grain size to not be lost to the non-magnetic fraction. If the grain size variation at Decar occurred on a medium scale with a random distribution, even though the awaruite nickel grade were constant, the recoverable nickel grade would have a complex spatial distribution that would turn grade control into a nightmare and probably rule out the sort of bulk tonnage processing scale required by these low nickel grades. In effect the Davis tube based assays represent mini bulk samples, and the consistency of the grade distribution solves a problem not addressed by the geochemical assaying method First Point developed for determining what portion of the fire assay derived total nickel grade is attributable to the natural stainless steel. First Point got this geochemical assaying method certified by an independent assay lab in 2010, but it did not quantify grain size, and left open the question of whether or not any resource estimate would meet 43-101 standards. The Davis tube assaying method has given Cliffs a very mechanical way of estimating the recoverable nickel grade distribution of the Baptiste zone, and if the rest of the holes deliver similar assays, when Cliffs reports an initial resource estimate for Decar sometime during Q1 of 2012, I would be very surprised if the number is not 300-500 million tonnes grading 0.1%-0.15% nickel that is close to 100% recoverable through basic grinding and gravity-magnetic separation. And if the rest of the planned holes which double the tonnage footprint deliver similar intersections during the 2012 summer drilling season, we will be looking at a potential mining scenario capable of producing 40 million lbs of nickel annually for 25-50 years from a mine whose magnesium rich waste will suck up an awful lot of greenhouse gases. This sort of long lived, environmentally benign operation - except, of course, for the visual fact that half a mountain will be removed - could very well bring local First Nations groups eager for long term jobs on side when it comes to permitting Decar.
While First Point will achieve the resource estimate milestone during Q1 of 2012, the most important milestone, namely a preliminary economic assessment which quantifies the cost of processing this low grade awaruite ore and which allows the market to convert the recoverable rock value into economic terms, will not be delivered by Cliffs any earlier than Q4 of 2012. The upside for Spec Value Hunters during 2012, however, does not hinge on Decar, which, because First Point will only net 25% if Cliffs decides to take Decar to production, is limited to about $2 based on 103 million shares fully diluted if Cliffs decided to buy out First Point based on Decar alone. Instead, the upside lies with the possibility that efforts by First Point during the last couple years to identify prospects similar to Decar and secure title will start to bear abundant fruit. Decar itself will not revolutionize the nickel industry, but if Decar works as envisioned, and there are a fair number of similar deposits in the world waiting to be exploited in the same fashion, the development of many Decar style deposits would revolutionize the nickel industry by fixing the long term price window of nickel in the $6-$9 range regardless of energy and chemical cost escalation, which would drive all but the best laterite and sulphide nickel mines out of business, and permanently strand as economically marginal the lesser laterite and sulphide nickel deposits that might have benefited from soaring demand and a "peak nickel" problem. If Decar works, and there are a bunch of similar deposits in the world's ophiolite belts, there will be no such thing as "peak nickel".
The upside for First Point that goes well beyond the $2 valuation limit we can reasonably ascribe to Decar lies with the edge First Point has in sourcing and securing these similar deposits. During the past couple years First Point's team has trotted around the globe, investigating and sampling ultramafic complexes in locations favorable for development logistically and geopolitically. Apart from Cliffs itself, which forged a joint venture with Altius in Newfoundland where First Point had already done a first pass with thumbs down results, and another junior trying to replicate Decar in British Columbia on prospects that First Point's crews had already discarded, First Point has not had much competition. In a sense that is not surprising, because the awaruite nickel story is still awaiting proof of concept, and Cliffs itself still has to prove that its maverick approach is the work of genius rather than delusion. The reality is that the conventional method of assessing the awaruite potential of an ultramafic complex involves tedious and expensive thin sections with electron microscope aided speck counting, which nobody but the true believers at First Point have any inclination to do. But First Point's management is not just a gang of toiling geologists beavering away at a long shot concept, like Chuck Fipke searching for diamonds hoping to get lucky one day. First Point's Peter Bradshaw has deployed his academic geochemistry credentials to develop the aforementioned geochemical assaying method, which is a very cheap and efficient way to test numerous ultramafic samples. First Point has processed an awful lot of samples, which has helped eliminate a nagging concern that awaruite nickel deposits like Decar might be almost as abundant as blocks of granite. This type of deposit is not lying at everybody's doorstep; during Q4 of 2011 First Point announced staking the Light prospect in Australia which until recently had been held by another group for gold potential that never materialized, and the Mich prospect in the Yukon. Of the two Mich appears to have higher grade, coarser grained awaruite mineralization, but Ron Britten has warned me that what counts about the Australian Light prospect is the scale of the geological context and that the company has not yet had time to home in on the most prospective zone. As an example, it is worth pointing out that a single hole drilled into Target B located 4.6 km northwest of the Baptiste zone yielded a solid interval if 258.5 m of 0.138% recovered nickel, in effect a major new zone at Decar. The area between Target B and Decar is not one large zone; 500 million tonne zones of decent grade and coarse grained awaruite without sulphides do not occupy every part ofhundred billion tonne slabs of ultramafic rock.
Since it is unreasonable to expect First Point to hit $2 on the basis of Decar alone until well after Cliffs has delivered a PEA, the potential for this sort of market performance during 2012 will have to come from growing evidence that First Point has amassed a portfolio of similar Decar style prospects with 500 million tonne plus potential. First Point, in which Cliffs owns a 14% equity stake, is pretty much serving as bird dog for Cliffs, whose understanding of how well a Decar style system works will vastly exceed that of everybody else, including First Point's management. If First Point delivers on its 100% owned portfolio buildup, and the work by Cliffs on Decar builds confidence that awaruite bearing ultramafic systems are a potential commercial supply of nickel with a cost structure relatively stable compared to laterite and sulphide sources, China Inc is likely to get wind of this story, and might be more than happy to convert some US treasury bills into 100% ownership of First Point, securing for itself an educational ringside seat at Cliffs' development of Decar and title to a portfolio of similar deposits. This Cliffs cannot afford to happen, which means that while First Point will survive 2012 intact, it will not survive 2013 as an independent company if the PEA signals Decar is a go, and the exploration work during 2012 on the new prospects has confirmed that they are likely in a similar league. I regard First Point Minerals Corp as a core position very leveraged to the future price of nickel, with the hedge benefit that if nickel becomes trapped in the $6-$9 range, and further work confirms Cliffs' body language which seems to already suggest it has a future mine on its hands, a mine so unusual it has far reaching implications for what First Point is doing on its own behalf, this junior becomes singularly valuable, in particular to China Inc, and quite likely the major nickel producers if they become alarmed by the threat awaruite nickel poses to their existing operations.
*JK owns shares in First Point Minerals Corp