February 10, 2011 - 9:29am EST by
2011 2012
Price: 2.84 EPS NM NM
Shares Out. (in M): 87 P/E NM NM
Market Cap (in $M): 247 P/FCF NM NM
Net Debt (in $M): 0 EBIT 0 0

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Summary: Large amounts of gold and silver ore were left behind in the late 1800’s when the rich Comstock Lode in Nevada was abandoned due to the limitations of the technology and economics of that time.  Until now complex legal disputes prevented any major effort to recover those minerals.  Over many years Comstock Mining (LODE) has assembled ownership of land and claims covering nearly all of the area, and has the capital and permits to begin mining again this year.  Rising cash flow and resource estimates should support a higher stock price over the next few years, even if gold and silver prices don’t do well. 

History: One of the most famous mining areas in US history was the Comstock Lode in western Nevada, out of which about $15 billion worth (at today’s prices) of gold and silver was extracted, mostly from 1860-80.  The Comstock mining industry was centered in Virginia City, now remembered mainly as the place where failed miner Samuel Clemens first started writing under the “Mark Twain” name.  Commerce and finance connected with the mines were major factors in the development and growth of San Francisco.

The cause of the success of the Comstock was the existence of extremely high grade concentrations (the “Bonanza’s”) and veins of ore throughout the district, much of it, at least what was initially mined, close to the surface.  As the mines followed the gold veins deeper underground, costs soared.  The ground was unstable, making the shafts hard to shore up, and as depth increased the mines became unbearably hot and filled with scalding water that needed constant pumping.

In addition, there were huge additional costs not inherent in the resource itself that made the mines expensive to run.  There were literally thousands of different mining companies and individual miners operating in the area, of which over 400 in the 1870’s were public companies.  Nevada wasn’t an official territory of the US when mining began, and the process for making and establishing claims was so chaotic that the Comstock became a lawyer’s dream world, where every mining company had to devote a big part of its budget to suing and being sued by its neighbors.  Many claims covered minuscule parcels, and lacking GPS they were often so vague—X number of feet from a certain tree stump to the edge of some other vague claim—that they could easily be “floated” some distance to try to cash in on someone else’s mining success.

By 1890, Comstock, based upon the technology and cost structure of that day, felt played out.  Mining with picks and shovels, transporting ore in horse-drawn wagons, and extracting the gold and silver using 1800’s technology were so high cost that as soon as the richest veins were depleted mining became uneconomic.  In the 100+ years since then, exploration, mining, and ore processing technology have all made huge leaps in efficiency, allowing a modern mine to profit nicely from ore with only a tiny fraction of the gold and silver concentration of what was needed in the 1800s.

People have long predicted that there is a massive amount of low-grade ore still available at the Comstock, but the competing claims and small size of the holdings made mining it inefficient and difficult, at best. Even Howard Hughes in the 1960s, through Hughes Tool, Union Pacific and Houston Oil and Minerals in the 1970s, all tried and gave up in the face of much lower gold prices.

Enter LODE:  Starting in 2003, a company then called GoldSpring Inc. began acquiring property and claims in the Comstock Lode District.  This company, primarily through debt financing, consolidated the substantial majority of the Comstock Lode District.  Most recently, through the financial backing of entrepreneur John Winfield, the company completed a restructuring and recapitalization that included a change of CEO, a conversion of substantially all of its debt to equity, further consolidations of land and a major capital raising that fully funds its business plan.  The Company also changed its name to  Comstock Mining Inc., better reflecting what it had already achieved.  The company controls over 6500 acres of property, including over six miles of contiguous area over the main lode geological structures and mineralized fault zones. It effectively controls nearly all of the mineable district.

Test production was first conducted in 2004-6 on a small part of the property, and exploratory drilling has been conducted since then so that when the company goes back into production, which it expects to do this coming summer, it will be a well planned and managed operation.

Compared to many small exploratory gold/silver mining companies that you might invest in, LODE has some edges:

1. Detailed records exist of tens of thousands of test holes and mine shafts, starting 150 years ago, which the company is using in its geological modeling.  One can’t guess how much it would cost for that amount of information to be gathered from scratch today, but it would be very, very expensive.  The impact on the resulting models was seen in the results of LODE’s exploratory drilling program last spring, where nearly every hole hit at least some precious metal mineralization.

2. In the 1800s their inability to use anything other than the highest-grade ore forced mines to follow the veins deep underground.  But as LODE’s exploratory drilling has shown, there is a large amount of lower grade but potentially lucrative ore available very close to the existing surface. This can be mined using low cost open pit mining to get the ore and heap leaching to get the metal out of the ore. The “strip ratio”, which measures the amount of useless dirt and rocks that need to be removed to get to the valuable ore, is extremely low.  Accordingly, the company believes that, even using very conservative estimates of both ore grade and the percentage of gold and silver extracted from the ore in processing, the cost per gold equivalent ounce should not exceed $500/oz to start.  And that cost has room to drop as LODE scales up its operations over the next several years and can optimize its processes.  So while gold rising from its present $1350/oz. level would certainly be welcome and increase investor interest in more speculative mining companies such as this one, there is room for gold prices to fall substantially and LODE would still show positive cash flow and growth in earnings over the next several years.

3. With all except two minor permits in place, LODE expects to start mining this summer, and believes it can reach cash flow breakeven by the end of 2011 and be positive in 2012 despite an aggressive exploration budget.  Generally, gold/silver companies that are bringing in cash from mining are valued at a premium to exploration-only companies, for a variety of obvious reasons.  LODE will be moving to the stronger status this year.

;New CEO and financing:  2010 was the year in which LODE, previously trading under the Goldspring name for under a penny per share, became a more credible speculation through a one for 200 reverse split, a complete debt for equity conversion, a new name, new CEO, and a major successful equity capital raise.

The company had been surviving for several years on increasing loans from John Winfield and some of his associates.  Had he wanted to do so, he could easily have called his loans, thrown the company into bankruptcy, wiped out the common shareholders, and owned the entire company himself.  The fact that he didn’t, and instead converted his loans to a convertible preferred position in connection with the sale of $32.7 MM net in other convertible preferred to outside investors (managed by Moelis & Co.), removed a major risk to the stock.  It also justifies, in my mind, his super voting position that gives him voting control of the common stock.  He controls approximately 33 million shares through his preferred stock, representing just under 40% economic ownership.  His special voting rights do not transfer, indicating John Winfield is a long term, foundational shareholder for this company.   The capital raise more than sufficiently funds the production start up, the acquisition of more land or claims, and the maintenance of a strong exploration budget.  If production starts up this summer on schedule and cost targets achieved, the company should be self-funding going forward.

Brought in initially as an advisor on the business planning and restructuring and then made CEO last spring, Corrado DeGasperis is not directly from the mining industry, but has broad experience in discrete, industrial metals and mining process industries.  He is a strong believer in specific, achievable goals for an organization, and has a significant part of his total compensation based upon progress toward two specific near term targets for the company:  1)  Using the Canadian standard 43-101 categories, that LODE achieve at least 3.25 million gold equivalent ounces of Measured and Indicated Resources by 2013 (most recent number was 1.06 million in the August report by Behre Dolbear Group) and 2) achieve gold equivalent production of at least 20,000 ounces next year. If LODE can produce that amount, and if gold sells for $1300 on average, and if production costs come in at about $500, that would produce about $19 million in cash flow next year, before exploration and administrative expenses.

Production plans:  The first production facility, expected to start up this summer, will be on private land (under existing permits) in Storey County in what LODE calls the Lucerne Resource Area.   Mining and processing would be conducted through a “heap leach” where ore is dug out of the ground, crushed, piled up on an impermeable liner, and a cyanide solution is sprayed on top.  As it works its way through the pile the liquid combines with gold and silver, and that solution is removed from the bottom of the pile and further processed to remove the metal.  Heap leaching is cheap way to remove 65% to 85% of the metal (depends on porosity and size of crush) from low-grade ore.

High-grade ore is worth sending through a mill, which is very capital intensive but can result in up to 95% recovery. LODE probably won’t do that anytime soon, although it will save aside very high grades of ore for future processing in a mill.  LODE’s drilling program has come across various high-grade segments in certain holes, and it has developed a theory of the area that suggests where there might be more bonanza type finds that were overlooked in the 1800s.  But however exciting that prospect might be, the CEO doesn’t want the company to divert its efforts from the immediate goals of positive cash flow from inexpensive mining of lower grade ore and building its resource base to a level that might attract the attention of a major mining company looking to expand.

LODE expects to be using 0.05 ounces/ton ore on average in its first plant.  That should be ample—Allied Nevada (ANV) is doing quite well processing ore averaging under 0.02 ounces/ton.  The Lucerne facility can run for perhaps two years before the heap begins to reach capacity.  Intermediate plans call for expanding the existing heap leach and ultimately, constructing another one.

The production goal seems reasonable.  The first production facility is permitted to handle 720,000 tons of ore per year.  If the ore averages 0.05 ounces per ton, that means it contains 36,000 ounces, but no process completely strips the ore of all gold. The lower end of heap leach results is viewed to be around 65%, which means LODE would produce 23,400 ounces with that volume and grade of ore.  Higher grade ore and/or better results from the process would recover substantially more than that.

Meanwhile, LODE is working through the permit process for another production facility to be located in the Dayton Resource Area toward the southern end of its property, in Lyon County.  There are still approvals needed, but there is an established procedure for getting them that doesn’t allow much room for local demagoguery.  The 170 residents of Silver City across from the proposed Dayton mine aren’t happy about the potential for noise, but LODE management has been holding regular meetings with them to try to mitigate any ill effects.  The commission in Lyon County that could say no has only one out of five commissioners from Silver City; since the taxes will flow to the county, which would decide how much Silver City versus the rest of the county gets, at least four out of the five commissioners should be open minded, or better.  The goal is that Dayton should start up in about two years.

Staffing: One of the good things about open pit mining is the relatively lower labor cost compared to an underground mine.  The production workers, of which LODE anticipates it may need about 25-35 in the first facility once it has ramped up, are mostly skilled in using heavy construction equipment, and should be in good supply.  The company is actively looking for two higher-level employees with skills in engineering, metallurgy, and mine operations.  Although there has been a bidding war for high quality mining execs, LODE has some attractive things to offer: location in the US (many gold mines are in places where US engineers wouldn’t want their familes to live), and involvement in a legendary project that controls the totality of a large, known, geological district, and thus could plausibly provide continued employment for decades.

Finances:  The $32.6 million net capital raise last October, combined with preferred for debt exchange has yet to be reflected in a published balance sheet.  The Use of Proceeds summary says that $8MM will be used for capital items related to production, $15MM for exploration, and $4MM for possible land acquisitions of a few stray pieces in the area that LODE doesn’t already control.  At the same time as the offering, all of the company’s senior debt, $29.4 MM worth mostly held by John Winfield, was converted to preferred, as discussed above.

Valuation:  As will soon be obvious, I am not a specialist in mining stock valuation.  I’ve been long gold and silver for many years through the ETFs and Central Fund of Canada, but have stayed away from the mining companies other than a few tiny gambles.  I am interested in them now because gold and silver prices have had big enough moves that it is conceivable that, even if gold truly is on its way to $3000+ in a few years, prices for the metals could easily be stagnant or down for a while first. A mining company that is growing its reserves and changing from a cash burning exploration company to a cash flow positive producer over the next year, has a chance to do well even if gold and silver prices decline.

Given the hundreds of mining companies in the world, and the ample statistical data available on their reserves and finances, in theory it shouldn’t be too hard to see which are relatively under or overvalued.  In reality it is very hard, since so much depends on how heavily you weight the various factors, and which risks you are willing to take, and which you won’t.  For example, I would pay a good bit more for a mine in North America than in Mongolia or certain South American and African countries, but maybe you wouldn’t.  Given the massive amount of gold and silver found at Comstock ($15 billion worth at today’s prices) using primitive technology by people who mined only the richest veins, and the various legal and economic issues that discouraged much mining since then, that strongly suggests to me that over time LODE could find many times its initial 3.25 million ounce goal; you may be skeptical of that assertion, and give it no credit yet for any resources not identified on an official 43-101 report.

One thing is clear, though, that moving from exploration to production status has a big positive impact on a mining company’s valuation.  The company included some charts to that effect in the investor presentation from November 2010 on its website  Comparing North American junior miners of about the size that LODE expects to be within the next two years, the market cap per ounce of measured and indicated resources of the non-producing companies was about $72/oz., while the producers came in at $182/oz.  That chart was assembled in late September 2010, and most of the stocks are nicely higher than that now.

If LODE achieves its goal of 3.25 million gold equivalent M&I resources in two years, and being a profitable producer then can get even $150/oz. valuation, that would almost double the stock to $5.30 from here.   I am using 92 million fully diluted shares, which is 5 million greater than the maximum potentially existing at present, but it allows shares to be issued to management and employees for achievement of production and resource expansion goals.

Risks: These should be obvious.  No one knows for sure what is underground.  Unexpected problems can crop up getting permits or operating the production process.  Although John Winfield so far has been much fairer to shareholders than legally required, he does control a majority of votes and could behave badly in the future.  Although I doubt this is likely, gold prices could collapse. Much less unlikely is that rising energy, labor and other costs could squeeze potential margins. This is a speculative stock, and one should diversify among companies such as this.

Bear in mind that if every possible convertible and warrant were turned into common shares today, the total share count is about 87 million.  But actual common outstanding is only about 21 million shares, making it less liquid than the potential share count would imply.                                                                                                                                                                                                                                                                                                                                                                                                            Other Resources:  Lode’s website is useful:

If you know geology, which I don’t, you’ll find a massive amount of information in this 400+ page scientific book from 1882, which you can read or download for free online at, entitled “Geology of the Comstock Lode and the Washoe District, with Atlas”:

Here is a very bullish write-up on Comstock from last October at a gold oriented website:  The author is an experienced gold stock analyst, and feels more comfortable than I do at this stage making certain forecasts.





Startup of mine this summer

Breakeven by year end

Positive cash flow 2012

Large expansion of gold and silver resources

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