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 Thu May 2, 2002
Tracker 2002-10: Queenston joins gold stock bubble
    Publisher: Kaiser Research Online
    Author: Copyright 2002 John A Kaiser

 Kaiser Bottom-Fish Tracker 2002-10

Copyright 2002 John A Kaiser

May 2, 2002

Queenston Mining Inc (QMI-T: $0.85)

Tel #: (416) 364-0001
Web Site: www.queenston.ca

Queenston joins gold stock bubble

Queenston Mining Inc (QMI-T: $0.85)
is one of the few top priority cash rich bottom-fish whose management has not frittered away the money and which is now benefiting from the growing interest in gold stocks. When I adopted Queenston on December 11, 1998 as a top priority bottom-fish buy in the $0.30-$0.49 range the company had about $11 million in working capital (including the market value of Western Copper stock) and a sleeper gold asset in the form of Kirkland Lake deposits with inferred reserves of 1,440,000 ounces of gold. The Kirkland Lake resource, which is joint ventured 50:50 with Newmont (formerly Franco-Nevada), needs substantially better gold prices to be economic, and is presently in limbo while Newmont figures out its priorities. A natural outcome would be a deal which allows Queenston to acquire a much larger stake in the Kirkland Lake JV. Having a big partner like Newmont in an old mining camp is a liability because it is hard to get the world's biggest gold producers interested in chasing down narrow, high grade structurally controlled gold zones past miners might have missed or trying to put modest remnant zones into small scale production that creates a big impact on a junior's stock price but is just a distraction for a major desperate for new elephant deposits. If Queenston can get a significant majority stake in the Kirkland Lake JV the market would very likely assign a much bigger speculative premium to the existing ounces and the potential to discover additional ounces. Meanwhile Queenston is pushing ahead with a new play where a discovery hole would kick off discovery style market action in the stock (the present market activity looks like standard accumulation by gold bugs anticipating higher gold prices and a sectoral revaluation of non-producing gold juniors like Queenston). During the past couple years Queenston has generated a grassroots play called the Lake Abitibi project which covers part of what appears to be an overlooked deformation zone north of Kirkland Lake. Evidence that it might be gold bearing exists in the form of gold recovered through sampling of down-ice eskers. Queenston is pushing ahead with a drill program in late spring that could bring news of a new gold discovery. With the recent completion of the sale of the polymetallic Duck Pond deposit in Newfoundland to Aur Resources Inc (AUR-T: $3.93) Queenston's treasury is back in great shape with about $8.5 million cash. Management is signaling a return to a gold focus, which has attracted buying from gold speculators. Given Queenston's broad American shareholder base and its past history of closely tracking gold stock bubble cycles with an asset base that is better today than before, I interpret the recent breakout as the beginning of a major speculation cycle for Queenston. The stock is now trading above the bottom-fishing accumulation range of $0.30-$0.49 where it was stuck for years. From a bottom-fishing perspective I now regard Queenston as a Spec Cycle 100% Hold, and from a gold bull perspective, meaning belief in much higher gold prices, Queenston is a plain old speculative buy.

Gold stock bubble nourished by standoff between gold bulls and gold bears

At current gold prices and in the absence of a new discovery on the Kirkland Lake JV or Lake Abitibi project Queenston is more than fairly valued. Queenston has 28,009,191 shares issued and 30,794,191 fully diluted. In addition to about $8.5 million cash Queenston owns 850,000 shares of Western Copper Holdings Ltd (WTC-T: $1.55) worth about $1.3 million plus 1,614.404 shares of Thundermin Resources Inc (THR-T: $0.14). The company has about $0.32 per share in hard assets. The market is thus assigning about $20 million in value to Queenston's 50% share of the subeconomic Kirkland Lake gold deposits and the 100% owned Lake Abitibi grassroots gold play. Whether that $20 million is too much or too little is a matter of perspective. We are dealing with a very divided market regarding the outlook for gold. On one side of the fence are the gold bears who think gold is an obsolete commodity the central banks will be trying to unload for many more years. They would argue that the rally in gold stocks is overdone because it is already pricing into stocks gold above $340, a level gold will not achieve or exceed for any sustainable period because as soon as it approaches these levels the central banks will step up their selling, or "pre-selling" as gold leasing is more accurately described. It is indeed quite possible that the central bankers have listened to all the helpful advice from gold bugs about how silly it was to dump their gold reserves willy-nilly on the bid: "create strength so that you can sell into it; don't weaken the bid by hammering it". On the other side of the fence is a collection of optimists who range from righteous fanatics to cynics who reckon that the timing and circumstances are ripe for at least a modest gold bubble. Straddling the middle are people like myself who believe that 1) gold's role as an official reserve currency is permanently finished, 2) the central banks are in the process of liquidating their gold holdings, 3) gold will emerge as the private sector's alternative currency, and, 4) we don't know when the bank vaults will finally be devoid of gold so that the gold market is no longer vulnerable to random supply from a huge stockpile. This "I don't know when" stance, however, does allow for optimism that we will get a speculative boom in gold stocks so big it washes over into old-fashioned gold exploration plays. In fact, the longer gold can avoid a massive breakout, the bigger the speculative bubble in gold stocks can become. With this creeping uptrend in place that has a pattern of making incremental new highs and retreating to lows higher than the low achieved by the previous retreat from a new high, the audience of gold bulls will grow and the imagination will gradually swell about what the future has in store for the gold price. Good bull markets must climb a wall of worry, not vault it. Junior gold exploration stocks like Queenston are perfect for a market where a growing segment is starting to believe in significantly better gold prices that arguably may be still a long way down the road. The split between the gold bulls and the gold bears creates a special situation where buyers and sellers of gold assets are equally justified in thinking they got one hell of a deal at the other's expense. Speculators are pushing up the price of Queenston because they know Queenston has the financial means to make important deals that qualify as "incredible" from the perspective of a gold bull. At current prices ($308) gold is still very uninteresting for the vast majority of known gold deposits, and gold exploration for new deposits remains a hard sell. But the belief in higher gold prices is seeping into this market, and the longer it takes to validate this belief with substantially higher gold prices, the easier it will be for gold stocks to form an ersatz bubble. The gold stock bubble is developing a messianic character that to destroy will require some very serious golden thunderbolts from the central bankers. If the central bankers decide to defer or suspend their gold liquidation strategies, we could end up with a double bubble of gold prices and gold stocks, which would broaden market interest well beyond well financed gold exploration plays like Queenston that also own sleeper gold assets.

Duck Pond was a bet base metal prices would rebound faster than gold

Most cash rich bottom-fish left over from the resource sector boom of the mid-nineties succumbed to cash vanishing acts or ended up under the control of cash stalkers who are not at all interested in risking the capital on ventures with homerun potential and a corresponding failure risk. Queenston took a different approach. Management was not overly optimistic about the near term upside for gold during the late nineties because of the structural implications of the central banks' gold leasing strategy, but was optimistic that the base metals slump in the wake of the 1997 Asian currency crisis was temporary, especially if the new economy funeral ode to the business cycle was not a bunch of hogwash invented by investment bankers and mindlessly drooled out by the media. Well, Queenston's strategy worked out only half correct. During 1999 Queenston management took on an advanced polymetallic deposit in Newfoundland called Duck Pond which was too small for owner Noranda to develop. Queenston, which brought in an affiliated company called Thundermin Resources Inc (THR-T: $0.14) to split exploration costs, undertook a drilling program to delineate the known orebodies, and tested for satellite deposits Noranda might have missed. No additional deposits were found and Noranda's conditional back-in right disappeared. Queenston and Thundermin completed a feasibility study whose base case scenario indicated a net present value of only $44.5 million at a 7.5% discount rate and 100% equity financing. This valuation turned Duck Pond into a lame duck asset for Queenston and Thundermin, who could not finance its development without massive dilution that killed any upside potential unless metal prices soared. With a production decision deadline looming in 2003, Queenston and Thundermin decided to put the entire project up for sale. In December 2001 Thundermin's controlling shareholder, Aur Resources Inc, which specializes in mining small to medium sized massive sulphide deposits and can finance projects like Duck Pond internally, offered to buy Duck Pond for $6 million. No competing bids emerged and the transaction closed in late March 2002. Queenston received $3 million cash plus repayment of its $1.5 million loan to Thundermin, bringing its working capital back to about $9 million, of which at least $8 million represents cash. Thundermin was paid $2.1 million cash and the 11,209,968 Thundermin shares owned by Aur. After repaying Queenston the loan Thundermin ended up with $600,000 working capital, 28,379,645 shares outstanding, and the 3,048,000 Queenston shares it previously owned. From a Queenston shareholder perspective the outcome of the Duck Pond project was a disappointment, but that was the luck of a draw that hinged entirely on the future of base metal prices. On the plus side, Queenston's treasury emerged largely intact, with the $2 million decrease in working capital attributable to the decline in the value of its shares in Western Copper Holdings. Queenston, whose stock has a history of tracking gold market cycles, is now in excellent financial shape to pursue gold projects.

Thundermin: medium priority bottom-fish buy in the $0.10-$0.19 range

The cancellation of the Aur control block in Thundermin could pose a threat to Queenston. Thundermin's shares are widely held, with the largest block at about 6% held by Queenston. There is considerable management overlap between Queenston and Thundermin that is to some degree fortified by the corporate cross-ownership. In addition to the 11% of Queenston owned by Thundermin, Newmont now owns about 9% of Queenston following the merger with Franco-Nevada. The relationship between Franco-Nevada and Queenston has always been very friendly, and because the Franco-Nevada management now plays a key role in the future of Newmont, should not change. But Thundermin does represent a leveraged window through which a cash stalker could gain sufficient control of Thundermin to replace the board, which in turn would extend its influence to the Queenston board. Queenston's management is aware of this theoretical threat, but discounts it as a real one. As long as Aur owned the control block in Thundermin there was no reason for a cash stalker to accumulate Thundermin, and the terms of the Duck Pond sale, which included cancellation of the Aur block, were not predictable. Thundermin has not traded enough stock to build a meaningful dissident shareholder block, but that could still change. Hugh Harbinson, who sits on both boards, indicates that the current thinking about Thundermin's future is to focus on volcanogenic massive sulphide projects in eastern Canada while letting Queenston focus on gold projects in eastern Canada. With $600,000 working capital plus a block of Queenston stock with a market value of about $2.5 million, Thundermin itself is a worthy bottom-fish candidate for bottom-fishers who missed Queenston or want greater exposure but not at current prices. The stock is fairly liquid and has a large shareholder base left behind from its past incarnation as a Cuban exploration junior called Joutel. Thundermin has a number of exploration projects, but none of them are particularly interesting in their current condition. The upside for Thundermin lies in the acquisition of a new mineral exploration project and the eventual conversion of the Queenston block into cash. Thundermin is medium priority bottom-fish buy in the $0.10-$0.19 range.

Kirkland Lake and Lake Abitibi: exploring an old gold camp looking for a brand new one

Queenston stock started to rise after the PDAC conference in March where the company promoted its new 100% owned 13,800 hectare Lake Abitibi gold project about 100 km north of Kirkland Lake. This grassroots play covers a 22.5 km segment of the relatively unexplored Lake Abitibi Deformation Zone which the Ontario Geological Survey recently described as having potential to host a significant new gold camp. The existence of this deformation zone in a region with very little outcrop is apparently a recent revelation. Others have done flow-through funded work in the region during the eighties, though nothing seems to have come of this work. Queenston's plans to drill lake covered targets in February were scuttled by Ontario's warm winter, but barge drilling is now scheduled to start in late May. Optimism is based on the discovery last year of sulphide boulders with anomalous gold as well as gold found in an esker down ice from the deformation zone. A discovery hole would kick off a staking rush in this region. The stock's more recent breakout coincides with a run in the price of gold into new high territory, a development that shifts investor attention to Queenston's Kirkland Lake JV. Although Queenston has gold reserves in the Kirkland Lake camp, these ounces are in scattered deposits with grades that require gold in excess of $375 or the discovery of additional medium to high grade zones. The Kirkland Lake camp is legendary for the 37 million plus high grade gold ounces that have been produced from 25 mines from 1910 until the last mine closed in 2000. The five deposits on the 11,500 ha Newmont/Queenston Kirkland Lake JV represent an inferred resource of 4,137,560 tonnes with an average grade of 5.6 g/t. Small as this land position appears, it is the largest "single" owner land package in the Kirkland Lake camp which Queenston management spent years assembling. It was Queenston's willingness to do this packaging work that first attracted Franco-Nevada. Queenston has been busy re-logging 20,000 metres of old drill core as part of a structural reassessment of the region and has identified four gold bearing structures that extend for 80 km across the property. Queenston estimates that only 38% of the structures (in length terms) has been drill tested, that only a 10 km segment or 12% has been tested below 300 metres. This segment includes the known gold deposits. The company's web site has lots of details and diagrams. As operator Queenston wants to explore for additional high grade tonnage, but chasing after incremental tonnage may not fit Newmont's goals. Now that Queenston's former partner Franco-Nevada is part of Newmont, Queenston's partner may rethink its involvement in the Kirkland Lake JV and perhaps do a deal which enables Queenston to acquire a much larger stake. Because of extensive mining and milling infrastructure within the Kirkland Lake camp it is conceivable that with higher gold prices or new zones Queenston could very quickly become a gold producer using custom milling and contract mining. Kirkland Lake may look like a depleted gold camp, but there is still plenty of activity by small operators. At this stage the only exploration that remains to be done in the Kirkland Lake camp is drilling, drilling and drilling. A year ago drilling for deeper high grade zones or squirrelly near surface zones would have elicited yawns from the market, but today there is something akin to a revivalist movement afoot. Could it be that small is beautiful again while big has become ugly? Elephant hunts drove the gold exploration juniors during the nineties when gold traded in the $350-$400 range. Bre-X was a negative consequence while Arequipa was a positive consequence. National Instrument 43-101 will make Bre-X hard to repeat, and poor odds will make it hard to repeat Arequipa. This emerging gold stock bubble is about revisiting old frontiers on the expectation that the future holds higher gold prices. Queenston's Kirkland Lake JV is premised on the idea that if 37 million ounces were there to be taken out through a variety of methods over a hundred year period, there must be many more left, especially at depth. The Lake Abitibi project is a new frontier within a familiar backyard, much like Hemlo was twenty years ago.

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