1 Miner to Buy, 2 to Avoid

David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

As investors look towards basic materials for outperformance, they need to be mindful of those that have outperformed despite weak volume trends. Instead, the most attractive basic material plays are those that have generated improving free cash flow and are exploring high-growth projects. With several of the larger producers working on supply "hiccups" and fixing up facilities, the momentum will be in favor of the smaller producers that are willing to take on the greater risk for greater potential reward.

Avoid Hecla Mining (NYSE: HL), Silver Wheaton (NYSE: SLW)...

If you are looking for a good silver bet, Hecla probably isn't it. It trades at 13x forward earnings and is rated a 3 out of 5 on the Street where "5" is "sell." Over the last five years, EPS has declined and, though the company has an excellent balance sheet with virtually no debt and a quick ratio of 3.5, takeover activity has been relatively soft. It may become even softer after Deutsche Bank noted that the sector is around an inflection point where elevated operating expenses are becoming intolerable.

With the company busy fixing up its Lucky Friday mine (a $200 million project), momentum has been incredibly wake. In fact, over the last five quarters, the company has missed expectations four times (it was in-line in the one exception) by an average of nearly 30%. Yet the stock is up a bewildering 58.5% over the last six months with no strong sign of a recovery. Hecla has seen improved tonnage at its Alaskan Greens Creek mine, but grades have been lower than last year. Still, the company is committing a large amount of capital expenditures towards Green Creek by upgrading camp facilities and expanding with the the hope of exploiting low input costs.

Even Silver Wheaton, a silver and gold miner, has struggled in recent months as shareholder value has taken off. It is even stranger how the company has outperformed the real appreciation of silver despite poor operating performance. The company recently cut its dividend distribution by 30% as third quarter earnings of $0.34 per share came out $0.06 below expectations. A tepid 5.1 million ounces of silver were sold and cash margins, now at $27.70, fell 15% y-o-y. Since the company's business comes from buying future metal production of miners for cash, it will be particularly hurt by industry-wide delays, such as a postponement of Barrick's Pascua-Lama project.

And Buy Coeur d'Alene (NYSE: CDE)

Coeur d'Alene has been a terrific momentum stock off of strong performance. It is now nearly double where it stood at the beginning of August and comes equipped with a strong balance sheet of virtually no debt. Free cash flow trends have also been on a remarkable turnaround - going from negative territory between 2007 and 3Q10 to $257.3 million in the twelve trailing months ending 2Q12. That means the company is generating a stellar 9.2% yield against the current market capitalization.

As one of the miners with the lowest cash mining costs. Excellent operating cash flow of $430 million during the past 12 months position the company to pursue accretive takeover activity. The company currently has minority stakes in 7 exploration companies that could rapidly take off if resources are found. One backed company, Huldra Silver, for example, has properties in Canada that have yet to be developed--cash assistance from Coeur d'Alene can go a long way in catalyzing results. If nothing else, Coeur d'Alene can help push them into takeover territory.

Although many investors are afraid of nationalization in Bolivia and Argentina, I find that these fears are overblown. Coeur d'Alene has a strong relationship with local governments, and the cost of nationalization would exceed the benefits of foreign employment. In the long run, Coeur d'Alene will likely see multiples expansion from continued momentum and reduced fears.


TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Hecla Mining Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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