SSEC BOARD Investment Blog

Western Prospector presents a uniquely compelling value proposition amongst uranium juniors with known reserves. The recent weakness in commodity stocks combined with legal and political problems specific to Western Propsector’s core assets in Mongolia have conspired to make WNP one of the cheapest juniors based on market cap per pound of Uranium. More importantly, WNP is one of the few stocks out there that are aggressively working towards proving up historical resources with a realistic chance – as well as the know-how - to start producing before the turn of the decade. Furthermore, WNP’s Saddle Hills district has strong potential for new discoveries, superior economics as well as historically proven feasibility.

WNP’s core asset, Gurvanbulag was extensively developed by the Soviets for two decades, brought into pre-feasibility in the 80s and subsequently abandoned with the withdrawal of Russian personnel after glasnost in 1989-1991. With a historically measured resource of 50M pounds and management’s stated objective of bringing that number to 100M pursuant to this year’s exploration program, a conceptual mine at Gurvanbulag alone could be worth a billion dollars. Sweetening the deal is the blue sky potential of the enormous -1,900 km²- Saddle Hills property. Indeed, the basin was only sparsely explored by the Soviets who lacked a clear geological model and worked with outdated technology. It is conceivable then that the currently known deposits only represent part of a much vaster system; and such a view certainly finds support in the strong drill results generated by WNP’s exploration work to date.

To get a sense of uranium’s fundamentals, I urge you to look at hkup881’s write-up on Strathmore Minerals dated Jan 2nd 2005,(www.valueinvestorsclub.com) the story in my opinion is compellingly presented therein. A few passing remarks are in order however. First, the supply-demand equation, as is the case for most metals but especially so for uranium, involves many political and technical factors which make it exceedingly difficult to gauge. So difficult in fact, that World Nuclear Agency’s estimates for the next five years vary wildly from those of the IAEA; in short nobody really knows what’s going to happen in the years ahead. Will there be adequate supply to meet demand or are is a doomsday scenario forthcoming as utilities are forced to shut down and for lack of fuel? What we do know is that production is grossly inadequate to meet current needs, secondary supplies are running out and enrichment capacity around the world is constrained. We believe this underlying uncertainty to continue driving strong prices for U3O8 in the years to come. From the perspective of the utility manager, uranium costs are a small –only 2-5% - portion of total expenses with the balance being unrecoverable sunk costs. The upside potential for Uranium is hence tremendous as utility managers build up large inventories to assure fuel security. I will end this tirade by adding that uranium’s market balance currently rests on a very fragile thread indeed; specifically, supply in the years to come will only be adequate as long as the Former Soviet Union will continue to sell its military stockpiles to the west for scrap value.

In the last year alone, spot and long-term prices have more than doubled and hundreds of stocks have reinvented themselves as uranium plays. As of this writing, non-producing juniors alone boast a combined market cap north of $10B, up from maybe a half billion bucks just two years ago; this is a lot for a boutique industry. How did it happen? First, uranium stocks with actual production and/or established reserves are very few and far in between – after two decades of severe drought in exploration and mining the industry has had to virtually start from scratch. Second this formidable expansion has largely been fuelled by retail investors throwing their money at early stage exploration plays, completely blind to the fact that the bull will be most likely dead by the time the projects actually get going. Needless to say, the uranium frenzy has also made it difficult to find reasonable, let alone value propositions. This is why we consider WNP as a phenomenal opportunity; not only is it dirt cheap relative to peers, but it is also one of the most active explorers out there, with $20M in drilling budgeted for this year alone.

Turning to valuation; as of the day of this writing WNP boasts a market cap of $90M, zero debt and working capital of approximately $35M. Its Enterprise Value (Market Cap - Cash) per Pound of Uranium is hence ($90M-$35M)/55M = $1 per lb. Let us see how this compares to competitors:



______________________________EV/lb
Aurora Energy Resource ____________$6.73
CanAlaska Ventures _______________$4.89
Energy Metals Corp. _______________$1.93
High Plains Uranium _______________$5.32
Laramide Resources Ltd. ____________$8.99
Mega Uranium ___________________$19.15
Paladin Resources _________________$12.12
Pitchstone Exploration Ltd ___________$11.61
Quincy Energy ____________________$1.02
Santoy Resources __________________$3.58
SXR Uranium One _________________$6.53
Tournigan Gold ___________________$4.98
Triex Minerals ____________________$5.94
UEX Corp. UEX ___________________$29.80
Uranium Power Corp. _______________$6.95
Ur-Energy _______________________$1.30
Western Prospector ______________$1.00

Of course not all pounds are made equal and while pays to be sceptical with respect to any multiples methodology – which for all intents and purposes ignore future discoveries – we believe that WNP is amongst the top juniors not only in size but also in quality of its assets. The company is a fast mover and is generating results. WNP expects to integrate the underground work into a pre-feasibility study in H2 2006 and ultimately begin production by 2009. By the end of 2006, management believes that it should be able to bring its resource base at 100 million lbs U3O8. In the meantime, an independent resource calculation is slated to be completed in June and is expected to confirm historical grades and tonnage as well as upgrade the resources to a higher level of confidence (to the “Measured and Indicated” category). Success in this area is likely to be received positively by the market which tends to value higher confidence resources much more heftily. Additionally it is likely that the independent resource calculation will increase overall tonnage as actual grades have been higher than reported by the Soviets.

During the late 1970s and 1980s, the Russian invested millions of dollars in the region, basically setting up the Saddle Hills area as a major uranium mining centre. Historical work on Saddle Hills by the Soviets discovered 4 uranium deposits: Dornod, Mardaigol, Khavar and Gurvanbulag. Dornod was the first to be brought to production, in 1987, because it was considered a better prospect for open-pit mining due to its low-depth mineralization -currently the bigger part of the 40M pound deposit is owned by Khan Resources. Gurvanbulag however was the largest and most extensively developed of the four, and had undergone extensive pre-production development. Three shafts (one concrete-lined) were driven into the ground and a considerable 15 kilometers of tunneling was completed for underground drilling. The Soviet geologists worked up a resource estimate on these deposits: 23 million pounds of U3O8 grading 0.245% in the “C1” category (the Russian equivalent of Measured and Indicated), as well as 32.9 million pounds grading 0.14% in the “C2” (Inferred) category. With the goal of confirming and upgrading the Soviet resources, WNP has completed over 118 drill holes to date, representing 100,000 feet of drilling. Some 40 holes were drilled in Block 6 to verify “C2” inferred resource, yielding on average twice the grades indicated by the Soviets. Additionally, the drilling program has defined previously unrecognized trends of higher grade uranium mineralization (including 2.12% U3O8 over 7.1 metres) in elongate zones within the main “C1” Gurvanbulag deposit. The geometry of these recently recognized higher grade feeder zones not only provides WNP with opportunity for redefining higher grade core zones but also suggests geologic potential for extending the reported mineralization beyond the limits originally defined by historic drilling. Based on the drilling performed to date, WNP is currently carrying out an independent resource calculation expected in the next few weeks which will doubtlessly confirm -and perhaps even increase- the historically defined resources.

The Soviets, who were primarily interested in getting ore out of the ground as quickly as possible, performed little exploration on the remainder of the Basin. In addition to drilling at Gurvanbulag and the immediate vicinity, Western Prospector during 2005, has defined 15 additional high-potential uranium targets. Because last year’s exploration program was focused on confirming historic resources, only three of these targets have received any drilling, with two intersecting some encouraging results: the Southwest and Mardaigol-Tsever zones have demonstrated similar geological characteristics to Gurvanbulag. Furthermore, the Soviets, lacking a clear geological model, focused over 95% of the historic drilling on delineating stratabound mineralization within a depth of 200 m and overlooking vertically controlled structures. Very few deep holes were completed to test other known mineralized horizons at Gurvanbulag or anywhere else for that matter and even fewer holes were designed to test vertical structures. WNP’s 2006 drill program is trying to expand the known boundaries of the deposits and work to date has intersected strong results at deeper horizons as well as suggested that there is the opportunity for definition of near-surface uranium mineralization. The point is Saddle Hills Basin is shaping up to be a geological behemoth likely to contain multiple deposits like Gurvanbulag and Dornod.

On the permitting front, a Mongolian company has been hired as lead consultant and baseline studies are ongoing. Permit applications for water discharge from the underground have been cleared and de-watering of the underground workings is scheduled to commence this month. Given the existing infrastructure (including the concrete lined Main shaft) Gurvanbulag will likely be developed as an underground mine utilizing a combination of inclined room and pillar and cut and fill mining. In addition, there appears to be potential for open-pitable resources. We have worked out a DCF model for Gurvanbulag based on comments by WNP management and conservative cost assumption.


Mine Life (years) ___________________________13
Daily Throughput (tpd) ____________________2 000
Total Lbs Produced ___________________50 000 000
Average Ore Grade Processed (% Uranium) _____0.262%
LOM recovery ____________________________92%
Average mining cost per tonne _______________$30.00
Average mining cost per tonne _______________$19.00
Average G&A cost per tonne _________________$4.00
Average annual production (lbs uranium) _____3 800 000
Average cash cost per pound ________________$ 10.50
Current U Price (lb)_________________________ $46
Initial Capital Cost __________________$200 000 000
Sustaining Capital Cost per annum _________$2 000 000
Working Capital ______________________$5 000 000
Tax Rate ________________________________30%
Royalty ________________________________ 2.5%
Discount Rate _____________________________10%


DCF NPV (50 M pounds) ______________$380,000,000
DCF NPV (100M Pounds) _____________$800,000,000

Providing additional upside potential, the company holds a number of coal licences and applications in three areas of Mongolia. About 125 km east of Ulaanbaatar, in the town of Baganuur, the company has acquired two licences and a third one is pending. These licences are in close proximity to the Baganuur mine, which is the largest open pit coal mine in Mongolia. One of the licences covers a virtually untested portion of the basin, and management believes that it will host both open pitable and underground coal resources. Initial tests of coal from the area have been encouraging.


Despite the wealth of positive data coming from WNP’s exploration programmes, shareholders have endured a 70% decline this year following the initiation of a lawsuit by Maximum Ventures in early March and, more recently, an uninspiring Windfall Tax on gold and copper enacted by Mongolia’s parliament. While these concerns are valid, we believe the market reaction has been greatly overblown. A thorough examination of the relevant facts have led us to believe that Maximum’s lawsuit rests of shaky, if not altogether frivolous grounds. Additionally the recent events in Mongolia’s politics are not in our opinion symptomatic of a reversal in the government’s favourable disposition towards FDI. In fact, it is our opinion that Mongolia remains by far a superior mining jurisdiction as compared to Canada or Australia.

THE LAWSUIT

In short Berluschi/Maximum are alleging the existence of a verbal partnership with Ken de Graaf and privately owned Brant Enterprises (which sold WNP the Saddle Hills licenses) whereby De Graaf was to act as agent and trustee for Maximum Ventures. The agent-principal relationship would in turn mean that Maximum had a right of first refusal with respect to any properties sold by Brant Enterprises, including those held today by WNP. Ken de Graaf is VP Exploration for WNP and is a highly respected and influential man in Mongolia. He has been operating there since 1994 and sits on the North America-Mongolia Business Council; his former company, Cascadia Mining Inc, controlled up to 4.3 million hectares of mineral exploration and mining licenses in Mongolia and is credited with the discovery of the Gatsuurt gold deposit, subsequently sold to Cameco Gold in 2001. There are many, many reasons why Maximum’s lawsuit does not hold water. For instance why wait two full years from the original sale of Saddle Hills before voicing their objection; in doing so they have entitled WNP to rely on the validity of its ownership rights. The alleged partnership agreement also makes little sense in light of a later option agreement between De Graaf and Maximum with respect to two copper-gold properties: Edren and Ulaan. Indeed in that transaction, De Graaf extracted very hefty terms for Maximum which agreed to pay: 500,000$ cash and $4M exploration costs over four years for a 60% stake. Why pay so much when you are already the beneficial owner of these properties through the prior partnership? In fact, this lawsuit is most likely motivated by Brant’s cancellation of these same Edren-Ulaan options after Maximum failed to meet initial payments as agreed. Maximum is strapped for cash (the lawsuit is being led by Berlusci’s own firm) and has no projects to speak of, leading us to believe the lawsuit was an act of desperation whose purpose is to pressure De Graaf into settling on the Edren-Ulaan properties. In any event, with Maximum Ventures’ market cap of $15M, you can easily hedge against the litigation risk by buying one share of MAX for 0.50$ for every share of WNP.

POLITICS

The political situation in Mongolia has taken a bad turn. For some time now foreign mining companies have been the object of popular discontent, primarily because Ivanhoe Mines -currently operating a forced labor mine in Burma in partnership with the country’s military government- and infamous CEO Robert Friedland --- "Toxic Bob"--- who is associated with the largest two environmental disasters in mining history. What's more, Friedland has made some PR faux pas by promoting Mongolia all around the world as a dirt-cheap place to mine; unbeknownst to him, the Mongolian people have internet and read the newspapers; so they too heard his message loud and clear. Unfortunately for Bob as well is that Mongolians are very nationalistic, proud and somewhat xenophobic; they have also realized that the strength of commodity prices combined with the unexpected size of recent discoveries allow them to extract better conditions than what was envisaged with the drafting of 1997 Mining Act. Following a hunger protest in April the government promised to review its mining policies and a new Windfall Tax bill was subsequently enacted two weeks ago. This expropriatory tax requires of all mining companies to pay to the state 68% of net profits for copper over $1.18 per pound, and for gold over $500 an ounce. The bill was approved by 35 of the 45 parliamentarians who voted, representing less than half of the 76 elected members of parliament. The good news is that the MPRP (acting government) has repeatedly distanced itself from the bill, which it has stated is hasty and unreasonable. The president Nambaryn Enkhbayar is a firm advocate of privatisation, foreign borrowing and foreign direct investment to promote growth and poverty reduction; he is also said to be the most intelligent man in Mongolian politics. Despite and maybe because of that, the MPRP allowed the bill to go through; party MPs abstained to vote on the issue even though the MPRP’s majority in the house could easily have defeated it; the president could also have used his constitutional veto to quash the bill but decided not to interfere. In fact the government had every reason to encourage this sort of development; in effect the government fulfills a double standard of appeasing public sentiment and gaining a bargaining chip to amend the 1997 Mining Act, while at the same time appearing neutral and innocent in the face of events which would seem outside their control. The bill on its face is poorly drafted, absurd at parts and makes no distinction between foreign miners and local companies. We do not doubt that it will be significantly amended or altogether repealed when the Mining Act finally undergoes a much awaited revamp.

We also have no doubts that despite the current instability in Mongolia, WNP’s deposit is worth more precisely because it is NOT located in a “politically secure” part of the world. Indeed, environmental assessments in Canada, the US and Australia have become so cumbersome as to significantly increase costs and render the process excruciatingly slow (in Canada for instance it takes seven to eight years from initial notification of the regulatory agencies to the final construction approval). In the west, Uranium projects are subject to a level of scrutiny that goes far beyond what can be justified by their potential for environmental damage, based primarily on a perceived degree of public concern, rather than any objective measure of environmental risk. For this reason as much as any other, we believe that WNP is widely misunderstood by the market and presents one of the most compelling opportunities to leverage up on rising uranium prices.

// posted by Moderator @ 10:09 AM