Risks & Rewards of "Educated Gambling"

Due Diligence Study

The Basics

Company Name:

Symbol & Exchange:

Website:

Sector / Industry:

Geographic Region (s):

President or CEO:

Investor Relations Contact:

Price:

52 week Range:

Tangible BV/Share:

Total Shares Outstanding:

Market Cap (shares outstanding x current share price): how does this relate to net asset value (NAV)?

Average Daily Trading Volume: a) Past Month: b) Past 3 Months:

How long has the company a) been in business: b) publicly traded?

Has there ever been a share consolidation / reverse split?

- if so, when and what share ratio?

- if so, has there been a change in management & directors?

Shares Outstanding: a) Basic: b) Fully Diluted:

Share Structure (% ownership) by Management / Directors / Institutional Investors

Options Outstanding & Average Strike Price:

Warrants Outstanding & Average Strike Price:

Potential proceeds of exercised warrants and options:

If management and director ownership (combined) is below 30%, what percentage of shares outstanding is owned by the CEO and what percentage of total outstanding options is owned by the CEO:

What is the company’s general policy with respect to the use of stock options for executive compensation?

Are stock options tied to growth in share price or shareholder value, or does the company issue (or plan to issue) options annually as a percentage of total shares outstanding?

Does the company have a Normal Course Issuer Bid in place or any plans for one this year?

Growth Opportunities & Catalysts

Target Milestones or Events over the next 12 to 18 months:

What positions the company for profitable growth?

Where does the company’s strongest growth prospects lie and what does the growth of their industry look like over the next few years?

Is the ability to attract skilled labor an issue for the company – if so, how will this be resolved?

Is the company looking seriously at any mergers or acquisitions ? If so, is it conditional upon future financing?

Where do they see the company 3 to 5 years from now?

Warnings and a Note Concerning Resource Stocks

I spent 30 years speculating on microcap stocks and in the first 10 of those, consistently lost money. It wasn't until the internet came along that I had a fighting chance doing my own research in the 90's. From 1998 to 2020 I invested full time and emailed microcap "ideas" to a subscriber base.

During this publishing period I made enough notes that I eventually determined there was a template a person could use for completing due diligence. Ideally it could form the basis of a professional equity research report that a microcap company would contract to have done.

However, as I lived in rural Alberta, the idea of formalizing the process and meeting with public company executives, was not realistic. So what I had was a "process" that the average investor could utilize.

In a perfect world, these are the questions you want answered. But its a daunting process to ask or hunt down these questions... so most people won't bother.

What you could do, is familiarize yourself with some of it, and follow up on what seems most important to you - while recognizing that overlooking other aspects, could result in material losses.

Sections of this questionnaire will not be applicable to junior Resource Exploration and Development stocks. In the world of microcaps, these resource companies have their own set of questions that need to be answered. I have addressed some of these near the end.

Resource stocks based out of Canada and Australia are very often used to "fleece" investors. It is not uncommon to see them also listed in Germany on a junior exchange (often the FSE). Credible ones will list in the United States but many promoters are reluctant to do this as they risk being monitored by the SEC (stricter enforcement). If their primary listing is on the U.S. Pink Sheets... run in the opposite direction.

Be sure to read the section on RISKS

Compare The Following Over the Past 3 Years

Company Financials

Balance Sheet:

Total Cash and Investments:

Total Current Assets:

Buildings, Land & Equipment:

Total Assets:

Total Current Liabilities:

Long Term Debt:

Is there any Convertible Debt ? If so, what are the terms? *

*For a microcap company, convertible debt often leads to an eroding share price. These debt holders have no motivation to see a higher price because they want to convert their stock at the lowest possible price. Sometimes this type of debt is called a Death Spiral Financing.

Income Statement:

Annual Revenue:

Operating Profit:

EBITDA:

Net Income:

% Net Income of Revenue:

Cash Flow per Share:

Earnings per Share:

Growth Rates & Ratios - Where Applicable

Revenue Growth:

Net Income Growth:

Price to Revenue:

EV to EBITDA:

Price to Earning (P/E):

P / Tangible BV:

Total Debt to Market Cap:

Current Ratio:

Earnings Positive (Y/N): Cashflow Positive (Y/N):

Working Capital:

Long Term Debt vs. Tangible Book Value of Assets:

Productivity - Revenue per employee: Pretax profit per employee:

Industry / Growth / Structure

Financial Position & Corporate Structure

List financings completed in the past year (date, price, amount):

If a financing was completed in the past four months, what date will that stock become free trading?

Were warrants attached to the above financing, what price, and what is warrant expiry?

What percentage of above financing went to insiders, institutions, retail investors?

Do they have an estimate of the next capital raise ($ value) and a target time frame?

Are there any outstanding convertible debentures: If so, what is the conversion price/terms and due date?

Can they estimate a targeted percentage revenue growth for this next year (over the previous year)?

Do they foresee any abnormal changes (positive or negative) to operating and admin costs over the previous year?

Will their current monthly burn rate force a financing within the next six months and/or one year: If so, do they expect this to be debt, equity, or both?

Can they fund growth through cashflow or is a large equity financing required?

If the company needed to raise significant amounts of capital over the next 12 to 24 months, what management experience or corporate history would demonstrate that this could be achieved even in a challenging economic environment?

Is the corporate philosophy to minimize share dilution and only finance in small increments based upon share price and growth targets or is financing and growth the primary objective and eventually the share price will reflect fair value of the corporation (meaning share dilution is not a primary concern at the time)?

What is the general corporate philosophy with respect to share price, share dilution and growth objectives. How does the company strike a balance taking into consideration the need to raise capital at times when share price may not accurately reflect the fair value of the corporation?

Industry Position & Growth

Do they view themselves as an industry leader or Innovator?

What competitive advantage (or leadership products) does the company have within its industry?

Who are the main competitors within this industry?

In what areas have they demonstrated market leadership?

Do they have an estimate as to the dollar size of their industry’s market (national and international)?

With respect to the previous question, do they have an idea what percentage of this market they hold and what would be their objective after three years?

Is their industry fragmented – if so, any plans to consolidate it (pending available capital)?

Does the company possess any significant barriers to entry for competitors (patents, etc.)?

Are margins within their industry improving or on the decline through competition: Do they expect margins to be higher or lower versus the previous year?

Management & Investor Relations

Management

Senior management - notable strengths and experience as it pertains specifically to their business:

Board of directors and a brief note on their education and/or business experience:

Have any members of the senior management or board of directors, filed for personal or corporate bankruptcy in the past decade?

Have any members of the senior management or board of directors been charged by a Securities Regulator in Canada, the United States, or Internationally?

Have any members of the senior management or board of directors been the subject of a trading suspension?

Are there any pending lawsuits against the company (if yes, explain why)?

Has the company ever been halted by a securities regulator pending clarification of a news release, corporate filing, or management / director trading activity: If so, clarify when and why?

Have they used the same auditors for the past 2 years (if not, explain why)?

Does their board have an Internal Audit Committee?

On average, have their senior executives been Buyers or Sellers of their stock over the past 90 days?

What is the annual salary (or contract) for each of their op three senior executives?

How many full time staff are employed by the company: how many on contract?

What was total administration cost in the last quarter, what percentages went to full time salaries, contract employees, office rent? Is more than one office maintained and if so, where is it located and why?

Do any members of the senior management team or board of directors have contracts (consulting, facilities, or services) with the corporation? Summarize including dollar value and term:

Corporate Communications

What efforts are being made (or proposed) to increase visibility of the company to the investment community (retail investors, brokers, institutions) over the next six to twelve months?

Do they have a full time IR or Corporate Communications person working for the company: If not, who handles these inquiries?

If they do have a full time person, are they an employee or on contract. If 3rd party contract, explain who and what their compensation package is (term, monthly payment, stock options). Is their company exclusive to the 3rd party or does that person have multiple clients?

Is anyone within the company assigned to monitor public message boards for investor feedback: In addition to the corporate website, does the company use any aspects of social media such as Facebook, Twitter, etc?

Throughout the year, does the company plan corporate road shows to make presentations to institutional investors, brokerage firms, or investor conferences - explain if applicable?

What is the approximate dollar amount budgeted for corporate communications for the current year and what was spent in the previous year?

Corporate communications improves full disclosure, increases liquidity, and typically contributes to a higher share price. But not all companies have pro-active IR programs. If they fall within that category, what is their corporate philosophy on this topic?

Due Diligence Specific to Resource Stocks

Not For the Risk Averse

This would be applicable to penny stock picks for minerals and metals, oil and gas, or any other industry that involves exploration of a natural resource and its subsequent commercial development. In the world of microcap stocks / penny stocks, this is an extremely high risk category. It is wise to stick with analysts or newsletter writers you know have a proven history of success.

By the time a company reaches commercial scale, they have often moved from micro cap to small cap (or larger).

A Difficult Industry to Research "Successfully"

Digging Deeper

The following three reports must be filed by public resource exploration and development companies. Their availability is dependent upon the stage they are at. Ideally you want a geologist or economic geologist to review them. Do not simply trust the opinion of a stock promoter or hired gun for investor relations (IR).

1) NI 43-101

2) Pre-feasibility study

3) Bankable feasibility study

Identify which of these categories / stages below, their core project falls into. All of which have an effect on share price and overall valuation.

Many factors come into play here. For example: With mining projects you are concerned with overburden depth, economic zone depth, grades, access to infrastructure and manpower... to name just a few. You can have a great discovery but if its in the middle of no-where and you cannot get it to market, its pointless. And you need to carefully understand the global market of the commodity - not just because a sector is currently "hot".

1) Early Stage exploration only - find out if sampling, trenching, geophysics completed – and when. What about historical drilling or mine workings that exist on a mineralized trend?

2) Advanced Exploration and planning phase for drill targets (have drill targets been identified and necessary permits received)?

3) Some drilling with resource defined and/or proven reserves

4) Extensive drilling with potential economic production

5) Established reserves and in mine feasibility stage

6) Extensive drilling with potential economic production

7) Established reserves and in mine feasibility stage

8) Beyond feasibility and in pre-production financing

9) Financed and starting construction

10) In full production / Cashflow Positive

Exploration & Development Risks

Additional risks known and not known to management of a public company may impair business operations. For more detailed risk factors, review documents publicly filed and required by law. In Canada for example these must be filed with SEDAR

Here are questions you would want answered - they all pose inherent risks to your investment. Even as an institutional investor you would want these answered before investing - or even as you continue to hold that investment.

1) If working outside North America, provide an overview of the support or risks associated with resource exploration in that country (and local region) including politics, taxation, labor and unions:

2) Within the past 12 months, have any local or regional opposition groups organized public meetings to vote or speak out against your projects ? If so, provide dates and further details:

3) Within their exploration or production region, have any kidnappings (that they are aware of) occurred of foreign workers within the past three years. If yes, provide dates or background information:

4) For the company’s most advanced project, have issues or concerns arisen over metallurgy, overburden removal or strip ratios, or environment (arsenic levels for example):

5) What is the closest distance to rail, a shipping terminal, and the local community that will provide their manpower and services:

6) With respect to climate, is there a time of year when work (exploration / development / production) cannot be done economically – this also applies to extreme temperatures or rainfall that affect equipment function or road access:

Metals & Minerals Continued...

These Questions Should be Addressed / Answered

What is the core objective of the penny stock picks company; (a) to find and advance a project to feasibility stage in hopes of selling prior to mine development (b), to ultimately develop a producing mine and then sell once operational (c) ultimately develop a producing mine with the intention of operating long term?

If none of these, identify why:

Is the company currently partnered with any large mining companies?

Have all necessary permits and licenses been obtained – including water, drilling, land access, environment? If not, identify what stages these are at:

What is the project’s access to infrastructure including water, power, fuel and roads?

What is the total acreage of the company’s core project (include % working interest)? If not owned, what are the specific lease or license terms (is the land package contiguous)?

If their core exploration project was drilled in the past, why was it dropped by the previous company or not developed further – why do they feel it would be different under their control & direction?

If their core exploration project has strong exploration potential, explain why they believe it was still available and was not put into production years ago:

Investors often look for elephant sized high impact discoveries, do any of their projects exhibit this type of discovery potential?

If they have been drilling over the past year, what is the turnaround time at the labs for analyzing drill core?

What drill programs (if any) are planned for the next one to two quarters?

Is the company interested in joint ventures or does it prefer to raise capital on its own and retain existing control?

Within the past year has there been (regional) discovery success by other companies – explain what, who and when:

Are there any mid or large cap mining companies operating in the immediate area – if so, provide name(s) and any relevant information:

What is the company’s price outlook (1-3 year) for their primary commodity(s)?

Stats for the Past Year (Quarterly)

For mining companies in production, you can drill down further on their financials and production statistics.

Ounces Produced:

Run-of-Mine Tonnes Processed:

Average Head Grade (grams / tonne):

Concentrator Recovery %

For Oil & Gas Exploration / Production

The Basics:

Gross (and Net) total land position:

Brief summary of any field specific (notable) drilling success over the past one to two years:

Discuss any notable success by others in the immediate region:

Does the company have any specialized technical expertise?

Note applications of new technology in exploration, drilling or production:

Does the company work with any Notable joint venture partners?

Current estimated drilling inventory (number of locations):

Is the current year drill program funded or will a debt/equity financing be required within the next 12 months?

Average cost to drill a well in their core area of operations and average cost for completion / tie-in:

Are they (or others within their region) having difficulty getting timely access to drilling and production services?

Any production or facility restraints that should be noted? If so, how are they being addressed?

Is there year round access to wells and drill locations with close proximity to essential services?

For the previous year, what was the variance between the Actual year end production number and any forecast released in that same first quarter (through a news release or investor presentation)?

For the current year does the company remain on track with production forecasts? Explain any significant variance:

Summarize where the company sees significant growth opportunity over the next 12 to 24 months:

What is the CEO’s vision of where he would like to see the company 3 to 5 years from now?

Within the company’s core field of operations:

> what is the average working and operating interest (are the assets under the control of the company):

> what is the estimated production concentration of the top wells (do a small number of wells represent a large percentage of production and how long have they been on production):

> how long on average (note months or years) have these top wells been on production and what is the relative age of the company’s production base. This helps determine the company’s understanding of declines and reserves:

> Net wells drilled in the past 6 / 12 / 24 months:

> Percentage of current production brought on-stream in the past 6 / 12 / 24 months:

Compare These Financial Metrics by Quarter:

1) Avg boepd Produced (2) Avg Netback per boe (3) Total Operating & Transportation cost/boe (4) Production Weighting (% boe) of Oil / Gas / NGL’s

Assuming They Have Production:

Current Average netback per boe:

Cashflow forecast for the current year and Target for the following year (total $ value and per share):

Current production rates – percentage breakdown for oil, natural gas, NGL’s:

If production is behind pipe, note amount and date/volume it is expected to be brought on-stream:

Exit production guidance for the current year and the subsequent year:

Total 2P (proven plus probable) Reserves per last qualified reserves report (note date and percentage breakdown between oil, gas, NGL’s):

Reserve Life Index (current 2P / current annual production):

NAV per last financials:

Net Debt per last financials:

Total available bank lines of credit:

Debt as a percentage of current year cashflow (current and prior year):

Capital expenditure forecast for the current year and following year (note percentage financed through cashflow, debt, and/or equity:

Average Tax / Royalty rates:

EBITDAX (add back exploration expense) for the past year (break down by quarter):

R/P Ratio (proved reserves / Annual Production) for the past three years:

Enterprise Value (EV) per boe / day:

Market Cap per boe / day:

Net debt per boe / day:

Identify if the company has hedged production and what the terms are: