Breakwater’s bitter legacy still haunts Corona

A fountain of red ink is still spewing from Breakwater Resources (TSE) following an ill-fated strategic plan to have the company become an integrated zinc producer.

In the 1991 first half, Breakwater reported a loss of $12.39 million. This follows a massive loss of $75.4 million for 1990, which in turn follows a $15-million profit for 1989.

Once a successful gold producer with a 49% interest in the Cannon mine operated by partner Asamera Minerals (TSE) in Washington state, Breakwater’s foray into zinc was initiated after International Corona (TSE) acquired an equity position in the company several years ago.

The zinc initiative was ambitious, costly and unsuccessful, and Breakwater’s red ink spilled over on to Corona, which reported a net loss of $13.3 million for its 1991 first half after taking into account a $21.9-million writedown of its Breakwater investment.

This in turn has generated more criticism for Ned Goodman and his associates who have controlled Corona with 70% of the vote while holding less than 3% of the equity. Goodman’s penchant for convoluted deal-making and expansion-by-debt has left some institutional investors wary of his management style, particularly in today’s risk-averse investing climate. As for Breakwater, it’s currently trading at about 22 cents in a 52-week range of 17 cents to $1. And minority shareholders aren’t finding comfort in the company’s financial reports which show, along with the red ink and writedowns, details of fees paid to firms managed by certain company insiders for assistance in taking on the new ventures.

In mid-1988 for example, before the zinc foray, Breakwater acquired 20% of Bruce McDonald’s high-profile Noramco Mining (TSE), which was increased to 30% by late 1989. This acquisition cost $7.56 million cash plus shares, for a total consideration of about $22.3 million.

The deal still puzzles some former Breakwater employees who advised against it after doing a technical review. In any event, the quoted market value of that investment was $3.3 million at the end of 1988, and $2.59 million at the end of 1989.

Breakwater’s after-the-fact due diligence review turned up plenty of unfortunate surprises, such as a “mineral inventory” of only 40,000 tons at the producing Golden Rose mine in Ontario, compared to a Noramco reserve of 2.4 million tons grading 0.23 oz. gold per ton. The mine was quickly closed, and a number of advanced projects were downgraded to exploration status. Relatively modest finder’s fees of $100,000-150,000 each were paid in 1988 to firms managed by three Breakwater directors in connection with the purchase of the Noramco interest.

But the fees became heftier in the summer of 1989 when $1 million was paid to CL-Alexander, Laing & Cruickshank (ACL), a London-based firm in which Timothy Hoare is a director, for providing interim financing, lines of credit and investment advice regarding Breakwater’s bid for Asamera’s mining assets. Hoare is also a director of both Breakwater and Corona.

The Asamera acquisition was never completed, but Corona spokesman Brian Hay said the fee was paid because the $50-million financing package for the acquisition was on the table before the deal fell apart.

“Under those circumstances, and within the bounds of normal industry practice, the fee is not unreasonable,” Hay said, adding that the fee was disclosed and approved by Breakwater’s board.

A short while later, Breakwater agreed to pay another $1 million fee to ACL, this time for assisting in the merger with American Pacific which resulted in the acquisition of the El Mochito mine in Honduras.

And in August, 1989, former Breakwater president Brian Pewsey was granted a $400,000 interest-free loan secured by a first mortgage of his principal residence. That’s not unusual. Some officers and directors of other companies have similar loan arrangements. But sources say one former director was overruled when he suggested some of that year’s profits be applied toward paying dividends to shareholders.

Former Breakwater chairman Robert Hunter, who played a key role in Breakwater’s initial success, resigned during this period. Other subsequent high-profile resignations included Peter Brown and Pierre Lassonde. But Breakwater’s serious losses spring from a series of acquisitions and amalgamations designed to establish it as an integrated force in the zinc metal producing, smelting and trading industry.

These include the acquisition of the El Mochito mine, the Estrades polymetallic mine in Quebec and the Caribou mine in New Brunswick. Breakwater also acquired a metal trading company and a partially developed conceptual feasibility study and financial plan to construct a zinc smelter in the Middle East.

Breakwater and Corona were also involved in discussions with Conroy Petroleum and Natural Resources which owned a zinc deposit in Ireland. Conroy owes Breakwater about $3 million plus interest as a result of these “discussions,” but Breakwater’s 1990 annual report states that the “recoverability of this receivable” is dependent on Conroy’s ability to finance and develop “future profitable production.”

Breakwater’s long-range plan at the time was to deliver concentrate from these and possibly other deposits to its smelter, and thus establish itself as an integrated zinc producer.

“If you are going to play in the zinc game, you have to have some size,” Hay said to explain the rapid pace and the ambitious scope of the acquisition program. “If you’re a bit player, you drop to the bottom of the line with respect to smelting.”

Hay said zinc was considered to have a bright outlook when the strategy was laid out in the robust economy of the late 1980s. But the plan began to “financially hemorrhage” when zinc prices tumbled below the operating costs of the various operations.

The Estrades and Caribou mines closed after short and unprofitable operating runs, while El Mochito reported an operating loss of $3.4 million for the 1991 first half. Breakwater is now awash in debt, not including $15 million in loan advances from Corona.

The Cannon mine continues to perform well. It contributed US$2.9 million in cash flow during the 1991 first half, and El Mochito is performing better now that hoisting and other operating problems are being resolved. But Breakwater’s most disastrous investment was in the Caribou mine, which it was initially to have managed for operating fees ranging between $750,000 to $1.5 million per year.

Instead, Breakwater’s management team, then led by Pewsey and Hoare (several former insiders say Hoare called the shots), deviated from this plan by making an initial investment of $5.7 million in shares and convertible debentures of Bathurst, a private company which had acquired a controlling interest in the mine by the end of 1990.

Bathurst initially had a 10% interest in the Caribou mine, but was to acquire a further 90% interest held by a subsidiary of East West Minerals in return for a 10% net profits interest.

Breakwater agreed to acquire control of the Caribou mine in February, 1990, and during that year, made advances totalling $33.75 million directly and indirectly to support the continued development of the mine. A Breakwater subsidiary eventually amalgamated with Bathurst, a transaction completed in early September of 1990 (about a month before the mine closed). What isn’t commonly known is that Pewsey, Hoare, and Goodman — all Breakwater directors at the time — and Howard Miller (later nominated to Breakwater’s board) were all directors and/or shareholders of Bathurst Base Metals before the amalgamation.

The chain of events leading up to the acquisition is complex because it involves a number of companies and their subsidiaries. But in November, 1989, public documents show that by way of private placement, 6.5 million Bathurst shares were sold at 50 cents each to Breakwater, Corona, Noramco Mining and Timothy Hoare. Before this, some 8.7 million Bathurst shares were issued to a Fern Trust, of which Howard Miller and his family were later listed as beneficiaries.

Mining analysts were
critical of Breakwater’s Caribou mine acquisition, but the criticism took on more steam after a disastrous operating run led to a decision to suspend operations in October, 1990.

The Caribou mine acquisition was described as the “principal investing activity” carried out by Breakwater in 1990. Cash spent totalled $43.36 million, and $15.37 million in liabilities were assumed for a total of $58.73 million in 1990 (as compared with $5.42 million during 1989). Analysts suggest Breakwater management “ought to have known” what it was getting into with the Caribou mine acquisition because it had managed the mine for a time and was aware of its operating history.

In a report to shareholders in the fall of 1990, Pewsey said the decision to acquire Caribou was made “with the full knowledge that it was a relatively high-cost producer mainly caused by a complex concentrate which is expensive to smelt.” But he also added that the Caribou mine, “being extremely sensitive to the price of zinc, has the potential to generate high cash flows.”

As for Estrades, the polymetallic mine was closed in early June, less than a year after startup. Low metal prices, high operating costs, and excessive dilution were cited as the reasons for the closure.

Following these events, Corona President Peter Steen announced that cost-cutting measures were being implemented along with efforts to restructure and reduce Breakwater’s debt load. This mandate is now being overseen by Breakwater’s new chief executive officer, Allan Palmiere. At the end of June, 1991, Breakwater reported $132 million in assets, and $94 million in liabilities. Corona plans to sell its Breakwater interest to a subsidiary of Dundee Bancorp “for tax purposes” once a reorganization is complete. It is aimed at separating Corona’s gold and non-gold assets into two companies.