On the 17th November, JCHX Mining Management, a mine construction engineering and mining operations management company listing on the Shanghai stock exchange, announced they would pay C$11 million for a 19.9% equity stake in Cordoba Minerals, an exploration company listed on the TSX venture exchange. That equates to C$0.12 per share, which represents a 167% premium compared to the closing price of C$0.045 before the announcement. While it is only the beginning, this is an interesting case for a Chinese mining engineering company going through vertical integration, working itself up on the supply chain ladder from being a contract miner to an elevated playing field in the natural resources industry.

By Samson Li

AN INTERESTING PROJECT BECOMING UNLOVED

First a little background on Cordoba Minerals. Cordoba is an exploration company and its flagship project is a copper-gold project in Columbia called San Matias. After releasing a 200.1 metres of 0.66% copper equivalent drill hole (SMDDH012) in February 2015, Cordoba quickly attracted a new investor both into the company and for the project – High Power Exploration (HPX). HPX is a private mineral exploration company indirectly controlled by the mining tycoon Robert Friedland, who is also the boss behind Ivanhoe Mines. In the initial deal, HPX has become a stake holder in Cordoba by buying shares in the company and has an option to earn up to a 65% interest in the San Matias copper-gold project by contributing enough expenses. The market liked the news and sent the Cordoba share price to sky high levels.

Then in 2017, after spending over C$19 million on exploration of San Matias cumulatively and earning 51% of the project interest, HPX suddenly decided to sell the 51% project stake back to Cordoba, for new shares issued by the latter. For 92,681,290 new shares issued to HPX, at the market price of C$0.68 before the announcement, the deal was worth approximately C$68 million at that time.

The market took this news negatively for Cordoba, as it was a sign that HPX had decided to back out from the San Matias project, and without the financial backing of HPX, Cordoba has had to advance the project with its own money. Cordoba’s share price has slowly languished to the basement level since, with the share price trading as low as C$0.045 just before the JCHX announcement. Between 2017 and the majority of 2019, Cordoba continued to advance its 100% owned San Matias project, and in 2018, Cordoba also entered into a joint venture with Bell Copper Corporation to potentially earn up to 80% project interest in the Arizona Copper project in the United States. However, all these moves have failed to stimulate attention from the investment community so far, proven by the obvious downward trend in the share price.

THE CHINESE ARE EAGER FOR OPPORTUNITIES OVERSEAS…..ALBEIT CAUTIOUSLY

However, the recent announcement of JCHX purchasing an equity stake in Cordoba (with the latter issuing new shares to the former) has definitely raised a few eyebrows, especially gaining attention from the Chinese community. Firstly, Robert Friedland is a very well-known figure in the Chinese mining industry, due to Ivanhoe’s involvement of the Kamoa-Kakula project in the DRC with Zijin Mining and Citic Resources.

Secondly, the Chinese mining community has always been eager to expand their presence into the overseas market. For example, Shandong Gold Mining has established an office in Canada this year, sending out strong signals that they intend to look for opportunities in the country. Mother nature is kind to China in a way, as China is very rich in some certain minerals, including rare earths, graphite, tungsten and antinomy. Unfortunately, nature has not been too kind to China in other areas, as the average grade of many local deposits is considered to be below the global average. For example, while over 90% of China’s annual gold production is from underground mines, the average gold grade is below 2 g/t throughout the country which would make many of these deposits uneconomic if they were located in other jurisdictions like Canada or Australia. As a result, if a Chinese company (especially the smaller to medium sized) wants to work on projects which are deemed to be of higher quality (i.e. higher-grade deposits), overseas acquisitions is one of the viable options.

However, even though mining knowledge and skills are very transferrable, working overseas carries with additional risks and challenges, including earning the support of the local people, a true need to adapt to the local culture as well as a different set of laws and regulations, and last but not least, jurisdiction risks are somewhat uncontrollable. These barriers are even more challenging to overcome for private companies which are not mega sized nor having the financial muscle of the Chinese government. Some Chinese overseas acquisitions conducted in the past which has resulted in failures (i.e. securities issues, wrong planning on development, production problems, or outright purchased a project that has no merit) have also discouraged some people from taking the first step.

JCHX is a mine construction engineering and mining operations management company which was started in 1997 and has been listed on the Shanghai Stock Exchange since 2015. While initially JCHX conducted contract mining in China, their first business expansion abroad was in 2003, working on the Chambishi copper project in Zambia. They later expanded their footprint to other parts of the world, including Tajikistan, Laos, Serbia and other African countries. Over the years, JCHX has already specialized in underground mine development and construction, especially in large-section declines and tunnels development. This year, they won the bid of logistic assignments at Timok in Serbia and at the Darui lead zinc mine in Indonesia respectively. Interestingly, they were hired to work on an underground development assignment at Kamoa-Kakula, so they already have a working relationship with the Ivanhoe/HPX enterprise. The company has been profitable every year since being listed, and the latest market cap is approximately 5 billion yuan ($714 million).

Picture: The Kamoa-Kakula team, led by Adriaan Albertus DeBeer, the Head of Mining at Ivanhoe Mines, visited JCHX's paste backfill technology for metal mine's R&D lab in Beijing in Oct 2019. 

As a contract miner, JCHX can be classified as working in the middle stream in the mining business. It is indeed an interesting case that JCHX decided to conduct a vertical integration by trying to expand into the upstream (owning resources) through purchasing a large equity stake in Cordoba. Before the transaction, HPX owned 70% of Cordoba. Now after issuing new shares to JCHX, HPX’s stake in Cordoba is now being diluted down to approximately 60% equity interest.

WHY JCHX MADE THIS MOVE – THE RATIONALE

According to a spokesperson at JCHX, the company has contemplated expanding their business into the upstream since 2015. In recent years, they have been expanding their strategic department and data room focusing on overseas opportunities. The management believes that if the company wants to elevate to the next higher level and milestone financially, getting into resource ownership is a viable option, given further profitability upside contributed by the contract mining segment is fairly limited. According to their press release Cordoba will use the proceeds generated from JCHX to work on the San Matias project, while Cordoba is also looking to acquire copper projects in the African continent.

Picture: CORDOBA'S SPECIAL ADVISOR IN CHINA PETER ZHOU (RIGHT) AND JCHX DEPUTY CHAIRMAN WANG QINGHAI (LEFT) SIGN THE SHARE SUBSCRIPTION AGREEMENT IN BEIJING ON NOVEMBER 16, 2019

While on the surface, it looks like JCHX has paid a steep price, offering a 167% premium to the closing price of Cordoba before the announcement, the eventual benefits may outweigh the ‘steep’ price. First of all, JCHX has raised its profile enormously by partnering with the Ivanhoe brand in the exploration sector. By being a ‘minority shareholder’ at Cordoba, JCHX can take a slow approach by first learning overseas resource development from one of the best in the field. HPX still has the largest stake and is still determined to right the ship for Cordoba.

Secondly, as pointed out by some of the veterans in the Chinese mining industry, being a stake holder of Cordoba is a very smart approach for JCHX to expand its presence in the overseas market. According to the agreement, JCHX will have a right of first offer to be appointed as the engineering procurement construction contractor in connection with any future mining development on the San Matias project. That means any future developments at the San Matias project will be mastered by JCHX, which will become an income stream for the latter, lowering the overall risk of investing in Cordoba. While the agreement only covers the San Matias project, one can assume if Cordoba purchases other mineral assets in the future, JCHX should be able to at least participate partly, if not all, of the construction work needed to be conducted on Cordoba’s future new projects. There are also certainly more benefits than harm for JCHX by working closely with HPX, because the HPX/Ivanhoe enterprise is also working on other numerous mining projects throughout the world, which may refer further business opportunities to JCHX in the future.

TRY TO CREATE A WIN-WIN SITUATION WITH CHINESE COMPANIES

From the perspective of HPX, allowing JCHX to get onto the Cordoba train would certainly continue to improve the Ivanhoe brand name and network in China. Despite the 167% premium JCHX has paid as the entry ticket into the exploration game, it does not matter to HPX as their investments in Cordoba is still way out of money. The triple digit premium works more favorably as a marketing tactic and to catch the industry’s attention that Cordoba may be down but not out.

While Robert Friedland has enjoyed various success throughout his career, he is not afraid of getting into far more risky jurisdictions for potential mineral discoveries, including Mongolia, Columbia, the Republic of Guinea, South Africa, and the DRC. Interestingly, while Ivanhoe Mine’s Kamoa-Kakula is speeding up its development with the backing of Chinese capital, the company also have stakes in three other projects – Western Foreland (copper) and Kipushi (zinc-copper) locating in the DRC, and the Platreef project (PGM) in South Africa. All three projects could possibly be a mega sized flagship project by its own merit for any mining companies, but each may possibly need billions of capex for further development before production, let alone many Western companies and investors may still be weary getting into risky jurisdictions like the DRC and South Africa. From a strategic stand point, Ivanhoe must have considered looking to tap further capital from the Chinese market to push their other projects forward (especially the Platreef project considering the current PGM prices). Interestingly, Ivanhoe has conducted a rare roadshow in China this September (not common for a Canadian/US listing company), and there were rumours that Ivanhoe is considering spinning off these other assets onto the Hong Kong Stock Exchange as one of the possible ways to gain further access to the Chinese capital.

CONCLUSION

While there is no guaranteed success in the field of exploring for minerals, there are various ways to lower certain risks, as companies need to understand where their strong suit are. JCHX understands their edge is on mining engineering, so they use their strong point as leverage to get to the upstream resource segment. Make no mistake, getting into the natural resource definition and development business will certainly increase the future earnings volatility of JCHX, but compared to many pure explorers, they have the advantage and competitive edge of getting cashflows from their engineering and contract mining businesses to fund their exploration activities which are higher risk, but potentially yield higher return. If this business model proves to be a success, expect more companies in the mining service sector to follow.

The author does not own any shares of companies mentioned in this article  

The author was sitting two seats left of Mr. Zhou (Ivanhoe's China advisor) on the stage at China Mining 2019 in Tianjin