Cormark Securities Inc.: Initiating Coverage on Rare Earth Metals

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Cormark Securities Inc.: Initiating Coverage on Rare Earth Metals

  1. 1. L Edward Otto (416) 943-6748 eotto@cormark.com METALS & MINING September 13, 2011 Rare Earth Metals Critical To Energy Efficient Products, Mobile Electronics, & Electric Vehicles We are initiating coverage on: Used in relatively small amounts, rare earths allows magnetic, electrical, and Frontier Rare Earths Limited chemical processes to occur at significantly lower energy levels, allowing for Recommendation: Top Pick increased energy efficiency and smaller scale products. Over the next Target: $4.60 decade, demand for rare earths is expected to grow at 7-9% pa, driven Great Western Minerals Group Ltd. largely by a continued shift to energy efficient ‘green’ products, increased Recommendation: Buy Target: $1.50 use of mobile electronics, and electric vehicles. Matamec Explorations Inc. China currently produces ~97% of global rare earths. In July 2010 China Recommendation: Buy (S) Target: $1.05 announced significant reductions to rare earths export quotas (~40%) claiming protection of a strategic and dwindling resource. At the same time Quest Rare Minerals Inc. Recommendation: Buy China has made efforts to reduce illegal rare earths mining (~25% of Target: $11.40 production). Collectively, this has resulted in a sharp increase in prices and a signal to the rest of the world to secure new sources of production. Since 2006 rare earths prices have increased 1,000-10,000%. Based on our long-term forecast all of the dozen most advanced rare earths projects are needed to meet demand. While select ‘light’ rare earths are at risk of oversupply, ‘critical’ rare earths will remain in short supply in an optimistic production scenario. During the past twenty-four months, This report focuses on the four best development opportunities we see in the Cormark Securities Inc., either on rare earths sector. We are initiating coverage on Frontier Rare Earths its own or as a syndicate member, participated in the underwriting of Limited (FRO-T, Top Pick, $4.60 target), Great Western Minerals Group Ltd. securities for these companies (GWG-V, Buy, $1.50 target), Matamec Explorations Inc. (MAT-V, Buy (S), $1.05 target), and Quest Rare Minerals Inc. (QRM-V, Buy, $11.40). We view Disclosure statements located at each of these companies as favourable rare earths developers with potential the back and inside back cover for near-term production and highly profitable operations. We have also included a write-up on Namibia Rare Earths Inc (NRE-T) as we believe it could be an interesting long-term resource story.
  2. 2. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 Rare Earths MarketsAn Emerging Industry In July 2010, ‘rare earths’, the largely unheard-of metals, made mainstream newsOutside Of China headlines as China announced significant reductions to rare earths export quotas. China, which accounts for ~97% of global rare earths production, began imposing export quotas on rare earths in 2004. The July 2010 ~40% reduction in rare earths quotas resulted in a sharp increase in prices and a signal to the rest of the world to secure new sources of production. Since 2006 rare earths prices have increased 1,000-10,000%. Used in relatively small amounts, rare earths allow magnetic, electrical, and chemical processes to occur at significantly lower energy levels, allowing for increased energy efficiency and small scale products. We estimate that demand for rare earths will grow at an average of 7-9% pa over the next decade, increasing from ~125,000 t in 2010 to 239,000-288,000 t in 2020. It is estimated ~25% of rare earths production in China was sourced from illegal mining (~50% of ‘heavy’ rare earths). In an effort to improve environmental standards and consolidate the industry, China is likely to see minimal increase in rare earths production. The greater challenge in meeting forecast rare earths demand is the over/under supply of individual rare earth metals. We forecast a large shift in relative demand of individual rare earths metals, but expect new projects entering production to have a similar distribution to current supply, leading to significant oversupply risks for individual rare earth metals. Projects with a significant heavy rare earths grade (not relative distribution, just grade) are our focus for development potential. The most advanced rare earths mine developers range in production potential from 5,000 tpa to 20,000 tpa. We expect that all of the dozen most advanced rare earths projects are needed to meet forecast demand. Based on the development timeline of these projects the ‘critical’ rare earths (neodymium, europium, terbium, dysprosium, and yttrium) look to remain in short supply. Prices for rare earths have increased 1,000-10,000% from their 2006 levels, but for consumption to grow at 7-9% pa over the next decade prices must fall significantly. Molycorp and Lynas have the opportunity to realize 3-4 years of high pricing, but rare earths prices have likely peaked and we expect a slow decline until the bulk of new projects achieve production (2016-17). Similar to other industrial commodity booms such as uranium, molybdenum, and lithium; almost overnight the number of rare earths exploration companies jumped from a handful to more than a hundred. Within two years the world has figured out that, “rare earths are not rare”. Despite the relative abundance of rare earths deposits, it is near-term production from workable projects that is likely to remain in short supply for the next decade. High capital costs, difficult metallurgy, marginal ‘heavy’ rare earths grades, and a lack of people with significant rare earths processing experience are major hurdles to bringing new mines to production. The combination of an abundance of projects and peak pricing should not be interpreted as a sector in decline, instead a maturing of the sector and shift in focus to development assets. The rare earths sector differs from past industrial mineral booms in several ways: current producers are not increasing production, capital and technical hurdles to production are much higher, and advanced rare earths development projects remain attractive when an +80% drop in prices is forecast. 2
  3. 3. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 Initiating CoverageFrontier Rare Earths Limited Frontier is an early stage rare earths developer focused on the Northern Cape Province of(FRO-T) South Africa. The Company is fully funded to complete a bankable feasibility study onTop Pick – $4.60 its Zandkopsdrift Rare Earths Project. The deposit has a high rare earths grade (3.65% TREO [B Zone]) and excellent distribution of elements (21% CREO/TREO), ranking 4th in Cormark’s list of rare earths projects value per tonne. We believe the project is capable of starting construction in H2/13, with first production in H2/16, and ramping to full production in 2018. The mine is expected to average 20,000 tpa rare earths over a 40+ year life. KORES has signed an initial joint venture agreement to acquire a 10-20% interest in the project, up to a 10% interest in Frontier, and a 10-40% right and obligation to purchase production at market prices. The support of a world class strategic partner will aid in advancing the project to production. Based on our capital cost estimate and forecast cash buy-ins by KORES and BEE shareholders, Frontier is near fully financed for construction with debt financing likely available to cover the balance.Great Western Minerals Great Western Minerals is a late stage rare earths developer, focused on the WesternGroup Ltd. Cape Province of South Africa. The company’s flagship asset, the past producing(GWG-V) Steenkampskraal mine is in the process of refurbishment, with first production expectedBuy – $1.50 H2/12 and separated rare earths oxide production in H2/13. The mine is expected to produce ~5,000 tpa of rare earths oxides at low cash costs. The deposit is uniquely high grade (~16.7% TREO [Main Zone]) with a favourable distribution of critical rare earths (~22% CREO/TREO), ranking 1st in Cormark’s list of rare earths in-situ project value per tonne. We are confident the company will delineate a resource sufficient to support a long life operation. Great Western Minerals has the most exposure to near-term high rare earths pricing with its H2/13 production target (excluding the fully valued Molycorp and Lynas) and the company’s vertically integrated production model provides the opportunity to capture the full value chain of a fast growing industry.Matamec Explorations Inc. Matamec Explorations is an early stage rare earths developer. Its flagship asset, the Zeus(MAT-V) Rare Earths Project, is located between the cities of Val d’Or, Quebec and North Bay,Buy (S) – $1.05 Ontario. Initial metallurgical work demonstrates potential for pre-concentration by magnetic separation and a one step low temperature acid leaching, resulting in uniquely low cost processing. We believe the Zeus Project has the potential to become a ~5,000 tpa rare earths producer with ~$8/kg rare earths in concentrate cash costs and ~$41/kg realized price. Management expects to have a preliminary economic assessment completed Q4/11 and we believe the project is capable of a 2017 initial production start.Quest Rare Minerals Inc. Quest is an advanced rare earths developer, focused on its Strange Lake Project, in(QRM-V) northern Quebec. The deposit grades ~1.3% TREO with a high ~46% HREO/TREOBuy – $11.40 distribution and significant zirconium/hafnium/niobium by-product credits, ranking 5th in Cormark’s list of rare earths project value per tonne. The Company is fully funded to complete pilot plant (Q1/12) and bankable feasibility studies (Q4/12). While the project is remotely located, with fly-in only access and harsh northern conditions, the scale of the resource and production potential justify development. The resource is at surface and sufficient to support a ~15,000 tpa rare earths, 20+ year (high grade) mine life, with a 160+ years total resource. We believe the project is capable of a H2/13 construction start, with first production in H1/17 and full production in 2020. Quest stands out as a high value rare earths developer based on its ~46% HREO/TREO distribution. 3
  4. 4. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 Rare Earth Metals Used in relatively small amounts, rare earths allow magnetic, electrical, and chemical processes to occur at significantly lower energy levels, allowing for increased energy efficiency and smaller scale products. Over the last decade rare earths have seen rapid growth for use in technology and are critical to continued growth in mobile and ‘green’ industries. The term ‘rare earths’ generally refers to 17 elements of the periodic table (see Figure 1); 15 elements of the lanthanoid group as well as yttrium and scandium which are chemically similar and/or occur within rare earths deposits.Figure 1 Period Table Of Elements With Rare Earth Elements HighlightedSources: Technology Metals Research, LLC. (2011) Rare earths (“TREO”) can be segmented into ‘light’ and ‘heavy’ on the basis of atomic weight with yttrium generally grouped in with heavy rare earths (see Figure 2). Light rare earths (“LREO”) are more often found in carbonatites while heavy rare earths (“HREO”) tend to occur in a number of less common mineral types or in ion-absorbing clays. The division of light and heavy rare earths is also used as a measure of relative scarcity; light rare earths tend to be more commonly occurring and significantly lower priced versus the less commonly occurring and significantly more expensive heavy rare earths. Yttrium is often grouped with heavy rare earths due to its geologic occurrence and physical properties, though it is significantly lower priced. 4
  5. 5. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 The global hunt for rare earths deposits has had a strong focus on heavy rare earths mineralization due to their much higher value, critical need in end uses, and significantly lower risk of long-term oversupply. While advertising that rare earths deposits have a high percentage of heavy rare earths relative to total mineralization has become popular, it is misleading. Having a high heavy rare earths grade can be significantly different than having a high percentage of heavy rare earths relative to total rare earths grade.Figure 2 Definition Of Light & Heavy Rare Earths Sources: Technology Metals Research, LLC. (2011)Rare Earths Role In Rare earths have a broad range of uses; the most common uses being catalysts, magnets,Technology and phosphors. Catalysts have historically been the largest end use for rare earths but the growth of mobile electronics and ‘green’ technologies has spurred the development of compact and high efficiency motors, utilizing rare earth magnets, which now consume the largest amount of rare earths (see Figure 3).Figure 3 Rare Earths Consumption By End Use (2010) Consumption By Volume Consumption By Value Ceram ics Other Glas s Other Magnets Ceram ics Glas s 6% 6% Polis hes 4% 2% Magnets 20% 2% 9% 10% 39% Polis hes Phos phors 15% 12% Catalys ts Phos phors Alloys 19% Alloys Catalys ts 7% 18% 15% 16%Sources: Cormark Securities Inc., Technology Metals Research, LLC. (2011) and IMCOA The most notable use of rare earths is in magnets; rare earth magnets are much more powerful than ferrite magnets providing the ability to manufacture smaller, lighter, and more energy efficient motors. A 31:68:1 ratio of neodymium, iron, and boron is used to produce rare earth magnets with small amounts of dysprosium and terbium added to increase the magnets strength at high temperature and praseodymium to augment magnetic field strength. Compact and high efficiency motors allow for increased capabilities in mobile electronics, electric vehicles, and wind turbines. Virtually all permanent magnet based electric motors can be made smaller and more energy efficient using rare earth metals. Not only mobile electronics benefit from rare earths, household items such as washers and dryers can be made more energy efficient using rare earth magnets. The development of electric cars relies on both powerful batteries and energy 5
  6. 6. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 efficient motors to provide driving range and power comparable to combustion engine vehicles. Lanthanum and cerium, the most commonly occurring of the rare earths, are used in the petroleum industry to covert heavy crude oil into gasoline and other refined products due to their ability to interact with hydrogen atoms in long-chain hydrocarbons. Cerium, and to a lesser degree lanthanum and neodymium, are used in catalytic converters, in combination with platinum group metals, to reduce the emission of pollutants from an internal combustion engine. Phosphors are materials that emit light when exposed to an electrical current. LCD, LED, and plasma displays make use of compounds containing europium, yttrium, and terbium for their specific color properties and high electricity to light conversion efficiency. The ever improving capabilities of each generation of mobile phones are a great demonstration of the ability of rare earths to increase energy efficiency and reduce size. Beyond the three major uses for rare earths noted above, other end uses include such items as glass, fiber optics, ceramics, plastics, polishes, and lasers (see Figure 4).Figure 4 End Uses Of Rare Earths By Element (2010) Sources: Technology Metals Research, LLC., Roskill, and IMCOA 6
  7. 7. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Rare Earths Since 2000, demand for rare earths has grown at ~4.7% pa (see Figure 5). Over the nextDemand Forecast decade we forecast an average growth rate in rare earths demand of 7-9% (see Figure 6). By examining the growth potential for different rare earths end uses and the percentage of each metal used (see Figure 7) we can forecast underlying metal demand growth rates. On this basis we observe significantly higher growth in demand for rare earths such as dysprosium, terbium, europium, neodymium, and yttrium, collectively referred to as the ‘critical’ rare earths (“CREO”) (see Figure 8).Figure 5 Rare Earths Demand Growth (2000-2010) Magnets 9.5% Ceram ics 8.8% Metal Alloys 5.8% Other 5.8% Polis hes 5.1% Phos phors 3.5% Catalys ts 3.4% Glas s (2.4%) Total 4.7% (5.0%) (2.5%) 0.0% 2.5% 5.0% 7.5% 10.0% Sources: Cormark Securities Inc., Technology Metals Research, LLC. (2011), Roskill and IMCOA Over the last decade the use of rare earth magnets has grown at an average of 9.5% pa. The significantly higher strength of rare earth magnets has allowed for higher energy efficiency, greater performance, and reduced size in motors, loudspeakers, hard-disks, cordless power tools, and mobile electronics. We expect demand for rare earth magnets to continue to grow at similar rates due to the continued transition from traditional magnets to rare earth magnets in all applications. In addition to growing market share of the magnets market, electric cars and direct drive wind turbines will further accelerate the growth in demand for rare earth magnets. Demand for rare earths in catalyst applications has grown slightly faster than the global economy in the last decade. As production of oil continues to shift to heavy oil sources we see demand for catalysts growing at above average rates. Catalysts used in automotives to reduce environmentally harmful emissions will also see above average growth rates as the world shifts to higher tier engine emission standards. Demand for catalytic converters is likely to grow faster than the underlying demand for vehicles and generators. Rare earths demand in metal alloys has grown at an average of 6.8% pa over the last decade. While we expect continued growth for use in non-battery alloy applications, battery applications are likely to grow in line with the global economy. Rare earths are used in nickel metal hydride batteries which have been supplanted by lithium batteries as the performance battery of choice. Nickel metal hydride batteries are likely to continue to be used in applications that favor cost savings over energy and power performance and will see growth in demand in line with the economy. As the world shifts to higher energy efficiency lighting we expect demand for rare earths in phosphors to grow at accelerated rates. The global shift away from incandescent lighting to CFL and LED sources will see increased demand for rare earth metals. Growth in LCD, LED, and plasma screen displays as well as mobile electronics with 7
  8. 8. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 large and full-color displays, will result in increased demand for phosphors and rare earth metals. Rare earths based polishes are used in the manufacture of CRT and some types of LCD monitors, as well as high-quality mirrors and architectural glass products. The secondary and fast growing use of rare earths based polishes is in electronic components which has grown at 8-12% pa over the last decade. Collectively demand for rare earths based polishes should continue to grow slightly faster than the global economy. The notable exception to large growth in the rare earths sector is for use in glass. CRT monitors are commonly made using cerium oxide stabilized glass. The rapid transition to LCD, LED, and plasma displays has led to a significant drop in demand in CRT monitors and subsequently for rare earths in glass. To offset the decline, lanthanum has seen a growing use in glass to reduce passage of UV rays and is now commonly used in camera lenses. Rare earths are used in ceramics for a range of applications; from coloring additives to improving refractory, electrical, and hardness properties. We expect this sector to grow slightly above world economy growth rates due to increasing demand for high technology products and continued development of new applications.Figure 6 Rare Earths Demand Forecast By End Use 2010 Rare Earths Demand Forecast End Use 2010 Demand Growth Rate 2020 Demand (t) (t) Magnets 26,000 12% - 14% 80,800 - 96,400 Catalysts - Petroleum Refining 7,800 8% - 10% 16,800 - 20,200 Catalysts - Automotive 16,700 6% - 8% 29,900 - 36,100 Alloys - Batteries 13,400 2% - 4% 16,300 - 19,800 Alloys - Excluding Batteries 8,600 4% - 6% 12,700 - 15,400 Phosphors 8,500 8% - 10% 18,400 - 22,000 Polishes 19,000 4% - 6% 28,100 - 34,000 Glass 11,000 2% - 4% 13,400 - 16,300 Ceramics 7,000 6% - 8% 12,500 - 15,100 Others 7,000 4% - 6% 10,400 - 12,500 Total 125,000 7% - 9% 239,000 - 288,000 Note: Totals may not sum exactly due to rounding. Source: Cormark Securities Inc. The exciting potential for rare earths is how many new uses have yet to be commercialized or discovered. Above and beyond the current uses and growth rates for rare earths are the exciting opportunities for new applications. One such example is Molycorp’s rare earths based water purification technology. Many of the least common rare earth elements have never been thoroughly investigated for potential applications simply because the metals were unavailable. As new mines enter production and global production of erbium, holmium, thulium, and ytterbium increase it is likely that new applications will be found for their unique physical, chemical, thermal, and electrical properties. Our forecasts for individual rare earth metals demand is based on the current distribution of rare earths in the major end uses (see Figure 7). New technologies and end uses for rare earths are upside to our estimates. 8
  9. 9. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 7 Percentage Of Rare Earth Metals Used Per End Use (2010) Rare Earth MetalsEnd Use La Ce Pr Nd Sm Eu Gd Tb Dy Y OtherMagnets 23.0% 69.0% 0.8% 2.0% 0.2% 5.0%Catalysts - Petroleum Refining 90.0% 10.0%Catalysts - Automotive 5.0% 90.0% 2.0% 3.0%Alloys - Batteries 50.0% 33.4% 3.3% 10.0% 3.3%Alloys - Excluding Batteries 26.0% 52.0% 5.5% 16.5%Phosphors 8.5% 11.0% 4.9% 1.8% 4.6% 69.2%Polishes 31.5% 65.0% 3.5%Glass 25.0% 67.0% 1.0% 3.0% 3.0% 1.0%Ceramics 17.0% 12.0% 6.0% 12.0% 53.0%Others 19.0% 39.0% 4.0% 15.0% 2.0% 1.0% 19.0% 1.0%Sources: Cormark Securities Inc. and IMCOA Combining our forecast growth rates (see Figure 6) with the relative amounts of each rare earth metal consumed (see Figure 7) we arrive at our forecast demand for each of the rare earth metals (see Figure 8). Our forecast for individual rare earth metals demand is based on the current distribution of rare earth metal in the major end uses and new technologies and end uses are an upside to our estimates.Figure 8 Rare Earth Metals Demand Forecast Rare Earths Demand Forecast 2010 Demand Growth Rate 2020 Demand (t) (t) Lanthanum 28,770 5% - 7% 45,930 - 55,490 Cerium 48,980 4% - 6% 75,460 - 91,260 Praseodymium 8,700 10% - 12% 22,700 - 27,150 Neodymium 23,420 11% - 13% 63,840 - 76,300 Samarium 790 6% - 8% 1,390 - 1,670 Europium 420 8% - 10% 900 - 1,080 Gadolinium 740 11% - 13% 2,050 - 2,450 Terbium 440 9% - 11% 1,010 - 1,200 Dysprosium 1,300 12% - 14% 4,040 - 4,820 Yttrium 11,250 7% - 9% 21,740 - 26,090 Other 180 3% - 5% 240 - 290 Total 125,000 7% - 9% 239,000 - 288,000 Note: Totals may not sum exactly due to rounding. Source: Cormark Securities Inc. Figure 8 demonstrates the ‘critical’ ranking of rare earth metals such as dysprosium, neodymium, terbium, and europium, and yttrium, which have high forecast growth rates. Compounding the issue for ‘critical’ rare earths is the potential supply side reaction. The dozen most advanced rare earths projects collectively have a similar rare earths distribution to current production and the relative percentage of each rare earth metal produced is unlikely to change. This imbalance between rare earths metal supply distribution and forecast demand distribution will result in oversupply issues for select elements (see Figure 9). In a balanced supply/demand scenario new mines would continue to enter production until the basket value of their production reached break even. On this basis we expect the basket value of rare earths to decrease over time. Rare earths such as lanthanum and cerium are likely to sharply decrease in price as they enter significant oversupply. Rare earths such as dysprosium, terbium, and europium are more likely to see a small decline in prices as they remain in short supply. 9
  10. 10. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 9 Rare Earths Demand Distribution Forecast 2010 Production 2020 Demand Change In Oversupply Distribution Distribution Relative Demand Risk Lanthanum 23.0% 19.2% (16%) High Cerium 39.2% 31.6% (19%) High Praseodymium 7.0% 9.5% 36% Low Neodymium 18.7% 26.6% 42% Low Samarium 0.6% 0.6% (8%) High Europium 0.3% 0.4% 12% Low Gadolinium 0.6% 0.9% 44% Low Terbium 0.4% 0.4% 19% Low Dysprosium 1.0% 1.7% 62% Low Yttrium 9.0% 9.1% 1% Low Other 0.1% 0.1% n/a n/a Total 100.0% 100.0% Source: Cormark Securities Inc.Rare Earths Supply Since the 1980s China has gradually increased rare earths production while the rest of the world has declined. By-product light rare earths production from iron ore mines in the Bayun Obo region of China have been the primary source for low-cost production undercutting global competitors. Without significant revenue from light rare earths production, global producers were forced to shut down and by-product production of heavy rare earths ceased outside China. As demand for heavy rare earths has grown production has been sourced through mining of exceptionally low grade ion-absorption clays in the south provinces of China (~50% estimated to be illegally mined).Figure 10 Rare Earths Supply History 150 China Rare Earths Production (000 t) 125 Res t of World 100 75 50 25 0 1985 1990 1995 2000 2005 2010 Sources: Cormark Securities Inc. and Roskill China currently accounts for ~97% of rare earths production and is the only significant source of heavy rare earths. In 2004 China began implementing export quotas on rare earth metals, claiming protection of a dwindling resource and a focus on increasing value add manufacturing within the country. The export quota has decreased from (66,000 t) in 2004 to the current level of ~30,000 t. The July 2010 announcement that full year export quotas were being reduced 40% from 2009 levels sent shockwaves through the market and has resulted in the dramatic rise in rare earths prices. In addition to imposing export quotas on rare earths production, China has worked to improve environmental standards in the rare earths mining sector by shutting down more 10
  11. 11. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 pollutive producers, cracking down on illegal mining, and consolidating production. As a result production from China has decreased. It is estimated that ~25% of global rare earths production is from illegal mining in China, including ~50% of heavy rare earths production. Continued effort to shut down illegal mining operations will result in further rare earths supply reductions. Over the next decade we forecast minimal growth in production of rare earths from China (150,000 t in 2020). Figure 11 presents the rare earths supply/demand forecast over the next decade, based on current producers and Cormark/company estimates for the dozen most advanced projects. We believe Figure 11 presents an optimistic supply scenario, and not all the projects are likely to achieve production on the timeline presented, but the figure does demonstrate the potential for rare earths oversupply.Figure 11 Total Rare Earths Supply/Demand Forecast 350 Nechalacho Zeus Rare Earths Production (000 t) 300 Zandkops drift Norra Karr 250 Strange Lake Bear Lodge 200 Dubbo Nolans Bore 150 Steenkam ps kraal Oris s a-Kerala 100 Mt Weld Mountain Pas s 50 Karnas urt Buena Norte 0 China 2010 2012 2014 2016 2018 2020 Dem and High Dem and Low Sources: Cormark Securities Inc. and company forecasts A closer examination of the individual rare earths supply/demand forecast reveals that while total rare earths production is at risk of oversupply, in an optimistic supply scenario, critical rare earths (neodymium, dysprosium, terbium, europium, and yttrium) are likely to remain in short supply (see Figure 12).Figure 12 Critical Rare Earths Supply/Demand Forecast 160 Nechalacho Zeus Critical Rare Earths Production 140 Zandkops drift Norra Karr 120 Strange Lake 100 Bear Lodge Dubbo (000 t) 80 Nolans Bore Steenkam ps kraal 60 Oris s a-Kerala Mt Weld 40 Mountain Pas s Karnas urt 20 Buena Norte 0 China Dem and High 2010 2012 2014 2016 2018 2020 Dem and Low Sources: Cormark Securities Inc. and company forecasts 11
  12. 12. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Rare Earths Prices Rare earths are not exchange traded commodities; prices are negotiated between producers, metals traders, and end users with industry groups and governments tracking the most commonly traded metals prices. Figure 13 shows the historic average annual prices for the most common of the rare earths and demonstrates the extreme jump in prices since 2010. Heavy rare earths are currently 15-40x more expensive than light rare earths, due to a significant difference in scarcity. Over the next decade we expect the difference in prices to increase as individual rare earths face over/under supply issues.Figure 13 Rare Earths Price History (US$/kg) (YTD)Oxide: 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Current CAGRLanthanum 1.85 1.51 1.60 1.57 1.76 3.01 7.95 5.89 19.92 132.75 165.00 60%Cerium 2.03 1.68 1.57 1.40 1.49 2.46 4.35 4.16 21.75 133.94 170.00 59%Praseodymium 3.87 4.09 7.44 8.29 13.58 26.74 26.92 15.07 42.67 227.13 280.00 57%Neodymium 4.33 4.26 5.64 7.38 14.79 28.88 27.22 15.29 45.58 298.06 450.00 63%Europium 239.90 292.30 277.00 239.10 299.60 469.50 463.70 549.20 3,116.25 6,500.00 47%Terbium 170.00 341.00 311.40 456.20 553.90 658.80 352.10 526.30 2,522.81 4,750.00 48%Dysprosium 19.71 15.55 30.78 41.47 69.38 82.54 112.10 104.70 225.50 1,504.58 3,000.00 70%Yttrium 4.01 6.87 15.28 13.84 26.80 162.81 210.00 105%Sources: Cormark Securities Inc., Technology Metals Research, LLC. (2011) and Metal Pages Prices for rare earths have increased 1,000-10,000% from their 2006 levels, but for consumption to grow at 7-9% pa over the next decade prices must fall significantly. Molycorp and Lynas have the opportunity to realize 3-4 years of high pricing, but rare earths prices have likely peaked and we expect a slow decline until the bulk of new projects achieve production (2016-17). Based on the current distribution of rare earths production we have assumed a long-term basket value of ~$40/kg, roughly equal to our estimate of the marginal project cost (capital & operating cost). The hurdle for additional rare earths projects to achieve production is a combination of high capital costs, lack of people with rare earths processing experience, and need for end users. As an industrial mineral, projects will struggle to finance construction without demonstrated end users for production. We believe it is likely that the dozen most advanced rare earths developers receive support from joint venture and off-take partners to meet demand over the next decade. Future increases to rare earths supply (beyond 2020) are likely to be the result of mine expansions and not new projects. An oligopoly of producers is expected to form in the longer term, similar to many other industrial minerals, and support basket rare earths prices higher than $40/kg. Combining our forecast for a major shift in the distribution of rare earths demand with a $40/kg basket price results in our long term rare earths price forecast (see Figure 14). We expect the price of lanthanum and cerium to drop to historically low prices ($0.50- 1.00/kg) as the bulk of new rare earths projects enter production. Critical rare earths are likely to see the smallest drop in pricing as we forecast them to remain in short supply ($1,000-1,500/kg). We assume no value for the less common rare earths; holmium, erbium, thulium, ytterbium, and lutetium. Markets for these metals are currently too small to have well established prices and we view the sale of these metals as upside to our estimates. 12
  13. 13. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 14 Rare Earths Price Forecast (US$/kg) Long Oxide: 2012 2013 2014 2015 Term Lanthanum 125.00 50.00 20.00 5.00 1.00 Cerium 125.00 50.00 20.00 5.00 0.50 Praseodymium 275.00 275.00 275.00 150.00 75.00 Neodymium 450.00 450.00 450.00 200.00 75.00 Samarium 150.00 75.00 35.00 25.00 10.00 Europium 5,000.00 5,000.00 4,000.00 2,000.00 1,000.00 Gadolinium 225.00 225.00 225.00 225.00 150.00 Terbium 4,000.00 4,000.00 4,000.00 3,000.00 1,500.00 Dysprosium 3,000.00 3,000.00 3,000.00 2,000.00 1,000.00 Yttrium 160.00 100.00 75.00 50.00 15.00 Sources: Cormark Securities Inc.Rare Earths Mine Figure 15 presents Cormark’s list of the 11 most advanced rare earths developmentDevelopers & Explorers projects. The projects have been ranked based on run rate production value to adjusted enterprise value, accounting for our estimates of capital cost, operating cost, recoveries, and rare earths payability. Our ranking places no value on resource size or potential production expansion. We view rare earths as an industrial mineral and as such assign no value for in-situ resource, instead focusing on near-term development potential. The resource summaries presented in Figure 15 are based on the highest cut-off grade defined for each project which can support a ~20 year mine life. The in-situ value per tonne estimate is calculated based on Cormark’s long-term rare earths prices forecast (see Figure 14). Projects such as: Strange Lake (Quest), Nechalacho (Avalon), and Zandkopsdrift (Frontier) have very large resources and a much higher cut off grade can be used to examine the in-situ value of initial production years. Steenkampskraal (Great Western Minerals) stands out as a very high in-situ value per tonne project, but lacks resource size. The company’s resource estimate is based on historic numbers and no exploration drilling has been completed on the project. We believe the deposit can be expanded to at least 1 MM t ore at similar grade. Zeus (Matamec) ranks as the lowest in- situ value project, but has the potential for very low cost processing allowing for competitive economics. Production starts and run rate capacities are based on Cormark estimates and company guidance. Figure 15 indicates a run rate production of 10,000 tpa for Great Western Minerals, contrary to our 5,000 tpa long-term forecast (see Figure 37). Great Western Minerals is the closest junior developer to production and likely able to double capacity before many of its peers achieve production, but at this time we value an expansion to 10,000 tpa as upside to our forecast, though we do account for this expansion in calculating our long-term supply/demand balance. Molycorp and Lynas stand out with impressive market capitalizations due to their fully financed, built/construction ongoing project status. Both companies have the potential to realize several years of high rare earths pricing until the bulk of development projects achieve production in 2016/17. 13
  14. 14. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 15 Global Rare Earths Development Projects Resource Production(US$MM, unless otherwise noted) Market Ent. Tonnage TREO CREO HREO CREO/ HREO/ Value Run RateCompany Cap Value Project Location (000 t) (%) (%) (%) TREO TREO ($/t ore) Start (tpa REO)Development Stage Rare Earths CompaniesFrontier Rare Earths Limited $133 $83 Zandkopsdrift S. Africa 12,350 3.65% 0.78% 0.29% 21% 8% $1,269 2016 20,000Great Western Minerals Group, Ltd. $317 $308 Steenkampskraa S. Africa 250 11.65% 2.62% 0.89% 22% 8% $3,346 2013 10,000Quest Rare Minerals Ltd. $246 $196 Strange Lake Canada 31,351 1.26% 0.57% 0.57% 46% 46% $1,089 2017 15,000Matamec Explorations, Inc. $47 $42 Zeus Canada 16,314 0.51% 0.21% 0.19% 41% 37% $463 2017 5,000Tasman Metals Ltd. $202 $186 Norra Karr Sweden 16,200 0.65% 0.34% 0.33% 52% 51% $522 2016 7,500Avalon Rare Metals Inc. $415 $383 Nechalacho Canada 25,499 2.24% 0.76% 0.52% 34% 23% $1,891 2017 10,000Arafura Resources Limited $255 $158 Nolans Bore Australia 30,300 2.80% 0.66% 0.09% 24% 3% $840 2015 20,000Rare Element Resources Ltd. $359 $286 Bear Lodge USA 6,804 3.41% 0.68% 0.13% 20% 4% $1,108 2016 10,000Lynas Corporation Limited $2,862 $2,590 Mt Weld Australia 17,490 8.09% 1.67% 0.44% 21% 5% $2,756 2012 22,000Alkane Resources Limited $520 $502 Dubbo Australia 73,200 0.89% 0.29% 0.20% 33% 22% $634 2016 5,000Molycorp, Inc. $4,421 $3,941 Mountain Pass USA 27,216 6.55% 0.81% 0.03% 12% 0% $962 2013 40,000Sources: Cormark Securities Inc and company reports In addition to the publicly listed rare earths projects, several private projects are in development including; Orissa-Kerala – India, Lahat – Malaysia, Karnasurt – Russia, Dong Pao – Vietnam, and Buena Norte – Brazil. All these projects are small scale (<5,000 tpa) and have similar rare earths distributions to current production. Based on our forecast for 7-9% pa growth in rare earths demand and a sustained shortage of critical rare earths production, we believe all of the dozen most advanced projects are needed and should be advanced to production. This report focuses on companies with projects which we view as capable of successfully achieving near-term production, are attractively valued, and well positioned to receive the largest reratings as they shift to trading at producer multiples. Similar to other industrial commodity booms such as uranium, molybdenum, and lithium; since China announced major rare earths export quota reductions in July 2010 the number of rare earths exploration companies has jumped from a handful to more than a hundred. We take a much more conservative view on the valuation of exploration stage projects, assigning no value for resources in the ground, only development potential. In two years the world has figured out that ‘rare earths are not rare’ and there are relatively abundant rare earths resources around the globe. Projects that are unlikely to achieve production in the next decade will be further hindered by declining prices and new producers’ ability to expand production to meet demand. An abundance of rare earths resources will prevent the need for producers to acquire exploration stage assets leaving less than exceptional deposits to languish. Exploration stage projects must stand out as uniquely high grade, large, and/or having a low capital requirement to be able to force their way into a mature industrial mineral market. On this basis we see potential for rare earths explorers such as Namibia Rare Earths, which we view as having outstanding long-term resource potential. Figure 16 lists the 15 most advanced rare earths exploration companies. 14
  15. 15. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 16 Rare Earths Exploration Projects Resource(US$MM, unless otherwise noted) Market Ent. Tonnage TREO CREO HREO CREO/ HREO/ ValueCompany Cap Value Project Location (000 t) (%) (%) (%) TREO TREO ($/t ore)Exploration Stage Rare Earths CompaniesGreenland Minerals and Energy Limited $254 $242 Kvanefjeld Greenland 58,000 1.49% 0.32% 0.17% 21% 11% $1,040Commerce Resources Corp. $61 $56 Eldor Canada 50,950 1.97% 0.39% 0.09% 20% 5% $600Ucore Rare Metals Inc. $94 $81 Bokan USA 3,669 0.75% 0.33% 0.29% 45% 38% $569Hudson Resources Inc. $52 $49 Sarfartoq Greenland 14,058 1.53% 0.31% 0.04% 20% 3% $427Stans Energy Corp. $104 $81 Kutessay II Kyrgyzstan n/a 0.33% 0.15% 0.16% 45% 48% $360Pre-Resource Rare Earths Exploration CompaniesNorthern Minerals Limited $112 $104 Browns Range AustraliaPacific Wildcat Resources Corp. $96 $93 Mrima Hill KenyaNamibia Rare Earths Inc. $47 $19 Lofdal NamibiaMidland Exploration Inc. $44 $39 Ytterby CanadaGeomega Resources Inc. $39 $37 Montviel CanadaMontero Mining and Exploration Ltd. $29 $27 Wigu Hill TanzaniaRare Earth Metals Inc. $25 $17 Red Wine CanadaMkango Resources Ltd. $21 $15 Songe MalawiSearch Minerals Inc. $20 $11 Strange Lake CanadaWealth Minerals Ltd. $17 $17 Rodeo ArgentinaSources: Cormark Securities Inc and company reportsRare Earths Conclusion We estimate that demand for rare earths will grow at an average of 7-9% pa over the next decade, increasing from ~125,000 t in 2010 to 239,000-288,000 t in 2020. One of the many challenges in meeting forecast rare earths demand is the over/under supply of individual rare earth metals. We forecast a large shift in relative demand of individual rare earths, but expect new projects entering production to have a similar distribution to current supply. Cormark’s long-term average basket price for rare earths is $40/kg based on our estimate of the marginal project cost (operating and capital cost). Light rare earths such as lanthanum and cerium are forecast to enter oversupply and drop to historic levels ($0.50-1.00/kg long term), while critical metals such as dysprosium, terbium, and europium are forecast to face a much small drop in prices ($1,000-1,500/kg long term). Based on our long-term forecast all of the dozen most advanced rare earths projects are needed to meet rare earths demand. The development timeline for each of these projects will likely leave ‘critical’ rare earths in short supply. 15
  16. 16. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 Frontier Rare Earths Limited (FRO – $1.48, TSX)Recommendation: Top Pick Target Price: $4.60Figure 17 Statistics And Estimates Current Price C$1.48 Shares Outstanding (MM) • Frontier is an early stage rare earths developer, focused 52 Wk High C$3.75 Basic 89.6 on the Northern Cape Province of South Africa. The 52 Wk Low C$1.44 Diluted 89.6 Company is fully funded to complete a bankable Cash ($MM) $48.0 Mngt. & Dir. 2.6 feasibility study (Q4/12) on its Zandkopsdrift Rare Total Debt ($MM) $0.0 Insiders 67.7 Earths Project and has the potential to become a low- NAVPS C$9.22 Market Cap. $132.6 cost 20,000 tpa rare earths producer with significant Price/NAV 0.2x Float $28.5 EV $84.6 heavy rare earths.Sources: Cormark Securities Inc., Company reports • The Zandkopsdrift B Zone, the focus of initial production has a high average rare earths grade (3.65%Figure 18 Price Chart TREO) and distribution (21% CREO/TREO), ranking $3.75 2,000 4th in Cormark’s list of rare earths project value per tonne. The resource is at surface and sufficient to $3.25 1,500 support a 40+ year open pit mine life with significant Volume (000s) exploration potential. Stock Price (C$) $2.75 1,000 • Initial metallurgical testing and similar mineralization $2.25 to other rare earths deposits demonstrate Zandkopsdrift 500 ore is amenable to conventional extractive processes. $1.75 • Korea Resources Corporation (“KORES”) has signed $1.25 0 an initial joint venture agreement to acquire a 10-20% Nov-10 Feb-11 May-11 Sep-11 interest in the project, up to a 10% interest in Frontier,Sources: Cormark Securities Inc., Bloomberg and a 10-40% right and obligation to purchase production at market prices. KORES will fund the project pro-rata and arrange debt financing. We expect the parties to finalize a definitive agreement in Q1/12. • Management has done an excellent job of fast-tracking the project since its secured the exploration rights for Zandkopsdrift in 2007, completing a resource estimate, initial metallurgy work, Black Economic Empowerment agreement, and joint venture agreement. The project is on track for a preliminary economic assessment in Q4/11, bankable feasibility study in Q4/12, and production in H2/16. • We are initiating coverage on Frontier Rare Earths Limited with a Top Pick rating and $4.60 price target, based on a DCF12.5% valuation and 0.5x NAV multiple. We view Frontier as a fast track rare earths developer, with a strong management team and JV partner capable of carrying the robust project to production. Based on our capital cost estimate and forecast cash buy-ins by KORES and BEE Shareholders the Company is near fully financed for construction. 16
  17. 17. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Fast Track To Production Frontier is an early stage rare earths developer focused on the Northern Cape Province of South Africa. The Company is fully funded to complete a bankable feasibility study on its Zandkopsdrift Rare Earths Project. The deposit has a high rare earths grade (3.65% TREO [B Zone]) and excellent distribution of elements (21% CREO/TREO), ranking 4th in Cormark’s list of rare earths projects value per tonne. KORES has signed an initial joint venture agreement to acquire a 10-20% interest in the project, up to a 10% interest in Frontier, and a 10-40% right and obligation to purchase production at market prices. The support of a world class strategic partner will aid in advancing the project to production. We believe the project is capable of starting construction in H2/13, with first production in H2/16, and ramping to full production in 2018. The mine is expected to average 20,000 tpa rare earths over a 40+ year life. Based on our capital cost estimate and forecast cash buy-ins by KORES and BEE Shareholders, Frontier is near fully financed for construction with debt financing arranged by KORES likely available to cover the balance of funding needs.Capital Structure Frontier trades on the TSX under the symbol FRO and has a financial year ending in December. The Company was listed on the Toronto Stock Exchange in November 2010, completing a $60 MM initial public offering (17,650,000 units [share + ½ warrant] at $3.40 per unit) to fund the project through to the completion of a bankable feasibility study. The Company has ~89.6 MM shares outstanding on a fully diluted based (see Figure 19) and a market capitalization of ~$133 MM. Shares are tightly held with insiders holding ~80% of the Company (see Figure 20).Figure 19 Frontier Capital Structure Shares Outstanding (Basic) (000s) 89,563 Warrants (exercisable @ C$4.60) 10,864 Warrants (exercisable @ C$4.88) 609 Options (exercisable @ $2.00) 1,967 Options (exercisable @ C$3.29) 4,433 Shares Oustanding (Fully Diluted) 107,436 Cash ($000) (Q2/11) $50,255 Debt ($000) $0 Source: Company ReportsFigure 20 Major Shareholders Top Shareholders Shares Held (000s) Basic Ownership (%) Kensington Nominees 24,486 27.3% Lambeth Nominees 15,120 16.9% Westminster Nominees 14,294 16.0% Blenheim Management Services 13,790 15.4% James Kenny 2,153 2.4% First Canadian Mutual 977 1.1% Front Street 442 0.5% IG Investment 410 0.5% CIBC Global 360 0.4% Top Holders 72,031 80.4% Sources: Cormark Securities Inc., Bloomberg, and SediZandkopsdrift Frontier Rare Earths holds an effective 95% interest in the Zandkopsdrift Rare EarthsRare Earths Project Project (see Figure 21). Over the past 60 years the Zandkopsdrift carbonatite has been(FRO – 95%) explored by academics and various exploration companies. The carbonatite was initially investigated for its manganese potential in the 1950’s, followed by phosphate and niobium, and finally for its rare earths potential. From 1985 to 1988, Anglo American completed geological mapping, magnetic (see Figure 22) and IP surveys, and exploration 17
  18. 18. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748 drilling, which confirmed rare earths mineralization. Frontier acquired all diamond drill core, RC drilling chips, sample pulps, and records from Anglo American, giving the Company a significant head start on completing a first compliant resource estimate. Located in the Namaqualand region of the Northern Cape Province of South Africa, the property is accessible by maintained all weather gravel roads. The nearest railhead is located ~30 km to the south, at Bitterfontein, and extends 230 km south to port at Saldanha Bay, which handles the bulk of South Africa’s iron ore exports. The nearest high voltage line is located approximately 100 km to the south, but the local power utility has plans to develop a major power station that would result in the construction of a 400 kV line passing through the property. Mining operations are expected to be supplied by available water sources and may be supplemented by piping water from a small desalination plant to be located approximately 40 km from Zandkopsdrift on the coast. The regional centre, Springbok, located ~145 km from the property, is a source of local skilled labor and engineering expertise as a result of base metals and coastal/marine diamond mining in the region. Overall, the property has excellent access, climate, local resources, and infrastructure, allowing for potentially low capital and operating costs.Figure 21 Zandkopsdrift Project Source: Company Reports 18
  19. 19. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Zandkopsdrift Geology The Zandkopsdrift deposit is a rare earths bearing carbonatite that occurs as a circular intrusive and rises ~40 m above the surrounding plains (see Figure 21). Surface outcrops of the deposit consist of deeply weathered secondary iron-manganese material. Rare earths mineralization at Zandkopsdrift is related to a number of phases of carbonatite intrusion that have undergone several stages of alteration and weathering, resulting in a deeply weathered, vertically zoned, horizon. Exploration work to date has identified several rare earths enriched zones, mostly within the upper 80 m of the carbonatite. These zones correspond with deep weathering, alteration, and supergene enrichment. The majority of the rare earths bearing minerals identified at Zandkopsdrift consist of late stage, supergene, monazite and crandallite. Similar to Mount Weld (Lynas), the Zandkopsdrift deposit contains primarily supergene and hydrothermal monazite, which has been subjected to deep lateritic weathering and is believed to be amenable to a conventional extraction process.Figure 22 Zandkopsdrift Property (Magnetic Survey)Source: Company Reports 19
  20. 20. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Rare Earths Resource Exploration at Zandkopsdrift has been focused on testing the lateral and vertical extents of a deeply weathered rare earths enriched zone identified by historical drilling. The deposit has been investigated with numerous phases of historical drilling, the most recent being completed by Anglo American in 1989. Frontier acquired both the historical data and samples from exploration carried out on Zandkopsdrift by Anglo American. Compilation of the data resulted in Frontier completing several mineralogical and petrographical studies and a 13 hole reverse circulation validation drill program to confirm previous drilling for use in a NI 43-101 compliant resource estimate. The deposit can be sub divided into three zones, with each internal zone at a higher grade than the previous. A Zone, B Zone and C Zone are defined by cut-off grades of 1.5%, 2.5% and 3.5% TREO, respectively (see Figure 23). The B Zone is contained within the A Zone and the C Zone is contained within the B Zone. Total indicated and inferred tonnage in the B Zone (7.8 MM t indicated & 4.5 MM t inferred) is sufficient to support a +20 year mine life and has been used in our conceptual mine plan. While a 3.65% average TREO grade is impressive, the distribution of each rare earth metal is critical and Frontier boasts a 21% CREO/TREO ratio (Figure 24). Zandkopsdrift ranks 4th for in-situ value ($1,270/t ore using Cormark’s long-term rare earths price forecast) of the dozen most advanced rare earths projects (see Figures 15 and 29 for a detailed comparison). Combined with our forecast for low capital and operating costs, Frontier, has the opportunity to become one of the highest margin producers in the rare earths space.Figure 23 Zandkopsdrift Resource Estimate (October 2010) Source: Company Reports 20
  21. 21. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 24 Zandkopsdrift Resource Estimate Grade Distribution (October 2010) Source: Company ReportsResource Expansion & An 18,000 m resource drilling program was initiated in February 2011 with the objectiveRegional Exploration to increase resource confidence level. The program is expected to be complete in late September 2011 and is expected to move the majority of the Zandkopsdrift resource to the measured and indicated categories. An updated Zandkopsdrift resource model is expected to be published either before or in conjunction with the preliminary economic assessment. To date, 30 smaller satellite intrusives/plugs have been identified proximal to the Zandkopsdrift main carbonatite pipe (see Figure 25). While current resources are sufficient to support a 40+ year mining operation at currently contemplated rates, satellite pipes and plugs identified proximal to Zandkopsdrift have similar potential for rare earths mineralization and may be a future source of resource expansion. 21
  22. 22. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Figure 25 Zandkopsdrift Regional Exploration Targets Source: Company ReportsMetallurgy An initial review carried out by SGS Minerals Services of Lakefield, Ontario of historical metallurgical and mineralogical studies at Zandkopsdrift indicated that there is considerable potential for upgrading by flotation and hydrometallurgical treatment with a number of leaching options, resulting in a high (>90%) recovery of rare earths. Diamond drilling for the recovery of samples for metallurgical test work commenced on schedule in mid January 2011 with approximately 5,500 kg of core shipped to SGS Minerals Services of Lakefield, Ontario in mid April. A large composite sample of 1,000 kg, representative of the overall Zandkopsdrift deposit, was selected from this material, as well as a number of smaller variability samples from the higher and lower grade sections and from different rock types in the core samples. A bench scale metallurgical test program comprising mineralogical analysis, ore characterization, bench scale flotation, leaching and separation tests commenced in mid May 2011, with the objective of identifying the optimal flow sheet for the recovery of the contained rare earths. Initial results are expected to be available for the completion of the preliminary economic assessment. Similar to Mount Weld, Australia (Lynas), the Zandkopsdrift deposit contains primarily supergene and hydrothermal monazite, which has been subjected to deep lateritic weathering. We believe the deposit is amenable to a conventional extraction process, likely to employ flotation processing prior to high temperature acid leaching. Historic metallurgical testing indicated an acid consumption of 50-60 kg/t processed. The Company expects total acid consumption to be similar to Mount Weld (~400 kg/t). We estimate an overall rare earths processing recovery of 80% at costs of ~$7.50/kg rare earths oxides through to separation. 22
  23. 23. SEPTEMBER 13, 2011 EDWARD OTTO 416·943·6748Production Potential We believe management’s target for a Q4/12 completion of the bankable feasibility study is achievable and that construction is likely to follow in H2/13. We have allotted a 30-36 month construction period with first production in H2/16 and full production in 2018. We envision a 2,000 tpd mining and processing operating with a 80% average recovery producing ~20,000 tpa of separated rare earths oxides. Assuming a $3.75/t ore mining cost, $210/t ore processing cost (~$7.50/kg rare earths oxides), $10 MM pa mine site and plant site G&A cost, 3% effective royalty (5% royalty on mine-site production, assumed to be 60% of separated rare earths value), and $50/t shipping cost we calculate an average cash cost of ~$9.00/kg rare earths oxides. The forecast average realized price is ~$35.00/kg. Total capital costs for the project are estimated to be ~$450 MM, including $100-150 MM for mine and plant construction, and $300-350 MM for the separation facility, based on comparable projects and mining scale. As a 2,000 tpd open pit mining operation, with near zero overburden material, we expect mine site construction to be straight forward and low cost. Thorium and uranium levels are low and no additional precautions, treatment, or containment is likely needed. Based on a 20 year mine life the DCF12.5% valuation for the Zandkopsdrift project ~$1.3 BB (Figure 26). The B Zone resource alone is sufficient to support a 20+ year mine life and incorporating the A Zone into a mine plan would extend the mine life well beyond 40 years, but at this stage we make a conservative mine life estimate. Cormark forecasts an average realized price of ~$35/kg over the life of the mine. At current prices levels Zandkopsdrift would realize ~$285/kg.Figure 26 Zandkopsdrift Conceptual Model Summary(in C$000s, except where noted) 2012E 2013E 2014E 2015E 2016E 2017E 2018E 2019ECommodity Price Assumptions ($/kg) Lanthanum Oxide La2 O3 $125 $50 $20 $5 $1.00 $1.00 $1.00 $1.00 Cerium Oxide CeO2 $125 $50 $20 $5 $0.50 $0.50 $0.50 $0.50 Praseodymium Oxide Pr₆ O11 $275 $275 $275 $150 $75 $75 $75 $75 Neodymium Oxide Nd2 O3 $450 $450 $450 $250 $75 $75 $75 $75 Samarium Oxide Sm2 O3 $150 $75 $35 $25 $10 $10 $10 $10 Europium Oxide Eu2 O3 $5,000 $5,000 $4,000 $2,000 $1,000 $1,000 $1,000 $1,000 Gadolinium Oxide Gd2 O3 $225 $225 $225 $225 $150 $150 $150 $150 Terbium Oxide Tb4 O7 $4,000 $4,000 $4,000 $3,000 $1,500 $1,500 $1,500 $1,500 Dysprosium Oxide Dy2 O3 $3,000 $3,000 $3,000 $2,000 $1,000 $1,000 $1,000 $1,000 Yttrium Oxide Y2 O3 $160 $100 $75 $50 $15 $15 $15 $15 Others $- $- $- $- $- $- $- $-Production Ore Mined (000 t) 219 613 700 700 Ore Mined (tpd) 1,250 1,750 2,000 2,000 Recovery 80.0% 80.0% 80.0% 80.0%Total Rare Earths Production (000 kg) 6,423 17,983 20,552 20,552Total Cash Cost ($/kg) $9.15 $9.00 $8.93 $8.93Realized Pricing ($/kg) $34.79 $34.79 $34.79 $34.79EBITDA $164,670 $463,827 $531,516 $531,516Capex $30,000 $100,000 $200,000 $150,000 $10,000 $10,000 $10,000 $10,000Cash Flow $(30,000) $(100,000) $(200,000) $(150,000) $154,670 $415,278 $365,061 $365,061Net Present Value ($000s) 10.0% $1,774,723 12.5% $1,326,562 15.0% $1,001,227Source: Cormark Securities Inc. 23

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