Research Report: Eastmain Resources - written by Mike Kachanovsky  

I consider Eastmain Resouces to the type of company that every investor in the junior resource exploration sector must have in their portfolio.  For the best chance for exploration success, a company must have two key ingredients.  First, they must have experienced management capable of directing exploration activity and interpreting results, the ability to raise capital and conserve financial resources, and the skills to negotiate partnerships and create opportunities with other companies, further leveraging their resources into new avenues for success.  Without strength in management to make the difficult decisions, there is almost no chance for long-term success in the high-risk game of junior resource exploration.  The second indispensable ingredient is a solid property base, preferably large highly prospective parcels of land in districts supportive of mining activity, with 100% ownership interests or low earn-in requirements.  Eastmain Resources features strong and experienced management, an exceptional suite of property interests in various stages of development, and a well funded treasury to allow for aggressive exploration advancement.  I own shares in Eastmain Resources.  I would like to thank Mr. Don Robinson of Eastmain Resources for his assistance in preparing this report.

Overview:

Office Address:                36 Toronto Street, Suite 1000, Toronto, Ontario

Telephone:                            (519) 940-4870

Website:                                                http://www.eastmain.com/

Exchange Listing Symbol   (TSX):   ER

Share Structure:                                    Issued and Oustanding:                  44.7 million

                                                                Fully Diluted:                                  53.7 million

Market Capitalization:                       $25.9 million (as of the market close, June 11/04)

Management:

One of the things that separates Eastmain from the majority of the hundreds of listed junior exploration companies, is that they were active acquiring and exploring properties during the mid-90s, the last strong exploration boom before the current bull market.  What occurred in the interim was a devastating bear market that forced most of the weaker players out of the sector or out of business.  The survivors from that era have demonstrated a commitment to their projects, and the ability to manage money.  As juniors typically generate no cash flow from their operations, they must be firmly managed to conserve financial resources, and exploit all available sources for capital.  President & CEO Don Robinson, and Exploration Manager Cathy Butella are a part of a very select group that were able to not only advance their existing projects, but acquire and develop new opportunities during the bear market years.  And they have continued to generate impressive exploration returns, while raising new funds and enlisting the support of institutional investors.  A testament to their success can be found in the low number of outstanding shares, and the strong cash position of the company.  On an operating perspective, Eastmain added 391,649 resource ounces of gold at Eau Claire in 2 years, at a cost of roughly $2.5 million.   Net of rebates the cost is even more impressive, only $1,150,000 or C$2.90 per resource ounce of gold.  At a gold price of $400/oz. this amounts to US$156,000,000 in gross metal resource added.  The company’s discovery cost per resource ounce of gold is less than that of a medium size cappuccino.   Another example is the foresight to complete a financing during the fall of 2003 when the stock was trading at a high value, allowing for an equity offering that limited dilution but provided the funds necessary to cover exploration activity for some time into the future.  While this move was criticized at the time, the experience during the bear market years paid off, and Eastmain is not threatened during the current correction with having to curtail exploration due to funding concerns.   The company has a clean balance sheet, and very low administration costs, allowing the bulk of their funds to be directed at exploration activity.  A final point of interest, management has bought shares in the company on the open market and participated in private placement offerings, further demonstrating their commitment and confidence in long term success.

Projects and exploration activity:

The flagship project for Eastmain Resources is the district sized Clearwater Property in Northern Quebec, a 50 square kilometre parcel of land encompassing a number of excellent gold bearing structural trends.  Initial exploration in 1987 by Westmin Resources uncovered a high-grade gold vein in surface outcropping, and Eastmain acquired the rights to the property and followed up on the surface sampling work at the western end of the property, the Eau Claire Deposit.  A series of drilling campaigns has identified a large system of narrow, high-grade gold horizons.  The deposit remains open laterally and at depth, and the objective for the 2004 exploration season is to drill a further 10,000m on the property in step out drilling to test the limits of the known gold occurrences, and to test new targets in this robust system.  Management believes the richest zones of the deposit still remain to be discovered.  The most recent resource calculation was completed on April 24, 2004 and estimated 712,546 contained ounces of gold (cut grade) or 755,435 ounces (uncut).  No drill cores have been analyzed deeper than 600m vertical depths, and the results from previous work indicate high-grade veins that were not included in the latest resource calculation, so it is very likely that the gold resource will continue to increase as they advance their exploration plan.  The company recently announced an agreement to purchase the remaining 25% interest in the property from joint venture partner SOQUEM, establishing 100% ownership of this prolific property, subject to a net smelter royalty.   This transaction basically added the 187,000-ounce resource attributed to the SOQUEM interest in the property, for C$1 million plus 500,000 shares (C$0.55 per share) for a total cost of $1,275,000 or US$5 per resource ounce.   A scoping study is planned to establish the economic potential of the known ore body, and documents are being prepared to obtain permitting for a bulk-mining sample.  While there is the reasonable expectation that a profitable small-scale mining operation can be sustained on the resource defined to date, the outlook is justified that considerable ore deposits remain to be discovered on the property, and the potential exists for Clearwater to become a district scale mining camp hosting millions of ounces of gold.  Exploration expenditures are projected to remain manageable due to the ongoing support from the Quebec government partially reimbursing exploration activity within the Province, and the completion of new infrastructure near the property that will reduce the cost of transportation and improve access for supplies, equipment and personnel.  These factors will in all likelihood assist Eastmain Resources to continue to post one of the lowest exploration cash costs per resource ounce discovered in the sector.

Through a joint venture agreement with Slam Exploration Limited, Eastmain has acquired the option to earn a 50% interest in the Reserve Creek Gold Project in Northern Ontario.  This project is located within a 600 kilometre-long belt that also contains the famed Red Lake Gold Mine operated by Goldcorp, one of the highest-grade gold deposits ever discovered in Canada.  As a result, the Red Lake district is heavily staked by a number of junior companies, and is considered to be one of the prime “addresses” for a prospective company to be active in search of a major new discovery.  Work to date on the property includes 7-diamond drill cores completed, with gold values encountered in all holes.  Eastmain has initiated a ground survey program to outline drilling targets, and budgeted for a drilling program to begin in summer/fall 2004.  This program should be considered another iron in the fire with the potential to develop into a major new discovery.

A third exploration program is focused in the area of Bathurst, NB.  The company acquired an option to earn a 50% interest on a property with targets identified that have the potential to host base metals deposits.  Work there is also partly funded by the provincial government of New Brunswick, and hence the net exploration costs are lower.  A small drilling program was initiated in May 2004 and results are pending.

Several other joint venture projects are also underway with various prominent exploration or producing companies.  Most notable is the ongoing aerial surveying and staking program with Noranda, using Mega-Tem technology to select promising properties.  Over 30 new property additions have resulted so far from this program, further strengthening the longer-term development potential for Eastmain.

Goldcorp has recognized the exploration strengths of the Eastmain team and formally allied themselves in future Quebec based property exploration.  As part of a strategic alliance announced in the fall of 2003, Goldcorp bought an equity position in the company was granted the right of first refusal for participation in any new exploration initiatives within Quebec.  This announcement is also an endorsement of the potential for Eastmain, and a validation of the development strategy that the company has maintained.

Outlook:

The junior mining exploration sector is one of the most volatile and risky avenues for investment.  Dramatic swings in investor sentiment create extreme fluctuations in the market value for companies.   Uncertain outcomes from expensive exploration activity add a further layer of risk for market participants.  It is important that investors seeking exposure to this sector fully understand the extreme trading volatility that is characteristic of most companies, and be prepared to deal with this potential through a strictly disciplined investment plan.  Much of the risk in the sector can be managed by thoroughly investigating the companies themselves.   Specific companies must be chosen based on their potential for the discovery of new mineral deposits that can add value for their shareholders, and for their ability to manage the discovery process with fiscal responsibility.  Ongoing monitoring is necessary to ensure that the selected company continues to operate within these principals, and critical re-evaluation of the prospects must accompany each new release of information.

Offsetting the higher risks in the sector is the potential for higher rewards when exploration success is achieved.  The ultimate objective for a junior explorer is the discovery of an economic mineral deposit.  The discovery process typically last for several years, and requires the successful progression through a variety of stages.   The market value of companies will be priced to a premium as their projects advance through each new development stage, and the level of inherent risk is reduced.  The greatest gain in shareholder value is at the discovery stage of exploration.  The challenge then is to identify companies with a high probability for successful resource development, that have not achieved a market valuation appropriate for the work completed and future potential.

With the various properties under exploration controlled by Eastmain, their proven ability to advance exploration and create value through partnership with other participants in the industry, and the strong financial position of the company, a case can be made that they may ultimately be successful in the definition of at least one major new resource discovery.  This would result in investment gains of several hundred percent for shareholders.  The company has interests in some of the most highly regarded exploration districts in North America, and work completed to the present time has yielded encouraging results.

Valuing a junior exploration company can be a very subjective endeavour, as there are few empirical parameters for comparison between the many participants.  The risks of failure decrease with each successful development stage completed, so investors must understand the progress a company has achieved and assign a fair value that reflects the underlying fundamentals, and considers the remaining risk and ongoing potential that each company is exposed to.

The precious metals sector has endured a vicious correction in 2004, which shows no signs of abating as the midpoint of the year approaches.  This has resulted in significant decreases in the market value of many high quality companies, and hence can be seen as an opportunity for new investors.  While the fundamental outlook over the longer term remains positive, as the effects of this correction continue many companies will be forced to reduce activity due to an uncertain financial outlook regarding the ability to raise funds at terms that are acceptable.  The strong financial position of Eastmain Resources, and the experienced management ensure that critical ongoing development activity will be sustainable for many months into the future.  The market value however for Eastmain at the time this report was prepared, is very much below the fair assumed value given the demonstrated higher potential, lower risk profile of their current status.  To be able to acquire shares of premium companies at distressed prices removes much of the long-term risk from the sector.

Considering only the work completed to date for the Clearwater property, one can assume a resource in the range of  750,000.  The company has a cash position of approximately $6.5 million in the treasury, with additional capital expected as options and warrants are converted.  Thus the current market capitalization for the company less the cash in the treasury is roughly US$18,400,000.  This equates to a market cap per resource ounce of only $16.73 (based on a Canadian dollar exchange rate of $0.74).   One could make an argument for a much higher market cap when considering all of the other properties and projects, further emphasizing that Eastmain Resources is clearly undervalued.

With the expectation that ongoing exploration work will achieve similar success to the programs completed during the preceding years, and the confidence that the bull market in the precious metals exploration sector will continue for several years, an investor must conclude that the intrinsic value of Eastmain Resources will increase further, and that the market will begin to assign a premium to this value.  Therefore Eastmain resources represents an attractive opportunity for investors seeking exposure in the junior resource exploration sector.

Disclaimer:  I have made my research and opinions available to the public as a resource to provide investors and the public with basic information.  My comments and opinions should not be interpreted as a recommendation or investment advice, which I am not qualified to provide.   While I have made every effort to maintain accuracy in the information I provide, it is possible that there are some errors or omissions in my coverage and the accuracy cannot be guaranteed.  It remains the responsibility of each individual investor to confirm if the subject of my analysis is appropriate for their investment objectives, and to conduct their own research and due diligence, and retain the services of a qualified advisor on to provide this service on their behalf.  I accept no responsibility for the performance of the companies that I feature in my coverage.  Junior mining and exploration companies are a risky market sector and investment in these companies can result in loss of capital.  Past performance is no guarantee of future success.  From time to time I may purchase stocks in the companies I feature in my reports, and I may sell some or all of my holdings.  I will disclose personal ownership in those companies that I refer to at the time of my first coverage, or after follow up reports.  I do not accept compensation from companies as payment to provide positive coverage or opinions