This section is from the "Investment And Speculation" book, by Louis Guenther. Also see Amazon: Investment And Speculation.
Beyond all doubt there is no type of bonds more speculative than those issued against undeveloped ventures, whatever their nature, be it coal, silver, marble, lead, zinc, gold, or copper properties. For one thing they are secured by an invisible asset, whose value can only be estimated by the uncertain skill of mining engineers.
We are told, especially in connection with copper-mining properties, that mining engineers have so far reduced their profession to an exact science, as to be able to determine, where indications of copper ore have been discovered, how they may block out the ore and measure the amount underlying the claims. This they say can be done by drilling to get at the percentage of copper to each ton of ore, and then multiplying the number of tons by this percentage. In other words they maintain that they can reduce mining to a point where there is no more uncertainty than in manufacturing.
I do not put any faith in this specious argument, at least so long as some of the most prominent mining engineers continue making serious blunders in their estimates. John Hays Hammond, who is regarded as one of the foremost men in his profession, has repeatedly erred in his reports on mining properties.
If it is possible to measure with any degree of certainty the treasures Mother Earth conceals, it does not reach far beyond the coarser mineral formations like coal and marble. The last mentioned, because it is of a quarry formation, comes in vast quantities and where found is of a perpendicular formation, in layers or strata, thus permitting one to place a certain reliance upon measurements. Coal, on the other hand, runs in horizontal layers, for it is formed by the carbonization of decayed vegetable life. The softer coal, or that known as bituminous coal, lies nearest to the earth's surface. As coal is found in blanket formation, it is possible, where a field is discovered, to determine to a certain extent the quantity of the deposits by means of core drilling.
That is not true, though, of the more precious minerals. Nature has not been so provident in the distribution of these metals that their quantity can be measured by any yard-stick. It is the writer's contention that of all assets, undeveloped mining properties do not at all properly belong to a class of securities on which bonds should be issued. An investor might as well take his chances with all the other stockholders in the enterprise and share in the profits if the undertaking proves successful.
A bond in an undeveloped mining enterprise represents the most perishable kind of asset. If the mineral yield becomes exhausted, the property then has no value beyond the mills and mine structures, which at most, as assets, are not worth very much, unless usable by a going mine.
The holder of a mining bond has to depend for the return of his principal and interest upon the profits realized from the ore produced. It is therefore necessary that the mine's life and production shall extend beyond the maturity of the bonds issued by it. How can this be known to a certainty!
The majority of mining bonds are issued as convertible bonds, giving the holder the opportunity of changing from creditor into partner at a certain fixed price for the stock, but it may be assumed that if a mine development points to success, the bondholder might as well from the beginning be a stockholder, considering all the risk he has to take; for did the mine fail, he would be out in the cold with the stockholders, except that he could foreclose upon barren, unproductive mining claims of no value.
Bonds in oil companies are of a similar class. No assurance can be placed upon the continuation of the oil supply. To convince ourselves what dangerous investments these bonds are, we need look no further than the great mass of such defaulted securities.
Of course, I refer principally to mining companies in process of development. There are mining properties whose bonds come within the category of investments. These bonds are, however, issued by corporations which are already assured of a certain production and have issued bonds to provide funds for opening up new areas, but which are not dependent for their redemption upon the new ores, but assure their payment, both as to principal and interest, out of their present and known production. There are a great many such mining corporations, notably among the successful coal-mining companies.
Our available timber resources have reached such a stage of depletion that the remaining timber tracts are exceedingly valuable. Thus within the last few years timber has come to be regarded as desirable security for bond issues. Standing timber of itself is valuable only when it can be cut and brought at a profit to the market, and when it is to secure a bond issue, there are certain elements of risk which should be seriously taken into consideration. The greatest risk is that of fire, which may quickly denude a tract of the greater part of its standing timber. Insurance companies will not accept risks on standing timber, for they consider the hazard too great.
The owners of standing timber, however, attempt to guard against fire by many ingenious methods: building ditches and embankments through the tract to check the spread of a fire; establishing patrols and fire stations; cutting away the thick undergrowth; and back-firing a forest with the help of experienced foresters. But notwithstanding all these wise measures of precaution, bonds based upon timber lands should be classified as coming within the class of speculative bonds, from which, because of the risks involved, an unusually good income should be received by those who invest their money in them.
A timber bond issue is based upon the quantity of standing timber against which the bonds are issued. "Cruisers," or men who measure the timber, are depended upon to make the estimate, and on their figures and the market price of timber the bonds are issued. From this it may be seen what great dependence the investors must place upon the accuracy of human intelligence.
To retire the bonds, a certain percentage is set aside each year from the sale of the timber, and that percentage should be large enough to redeem the bonds automatically, as every foot of timber cut correspondingly reduces the assets securing the bonds, which cannot again be replaced except through new growth from replanting. Where this is done, it is a slow process.
There is no general rule by which the intrinsic value of timber can be measured, for chance and the incalculable human element largely enter into it. The character of the men behind such propositions is equal in importance, in connection with the safety of timber bonds, to the safe-guards against fires. The conservative appraisal of the amount of timber available, the nearness of the tract to a market, the price of the timber, and the percentage set aside from each year's sales, all have an important bearing on such bonds and demand from investors their most careful scrutiny.
1. Why are mining bonds, as a rule, the most speculative of all bonds?
2. Is it possible to determine mining resources to a certainty? Explain.
3. What do bonds of undeveloped mining properties lack to make them safe investments?
4. If you had your choice of the stock or bonds of an undeveloped mining property, which would you choose? Why?
5. Under what conditions are mining bonds reasonably safe investments?
6. What is the greatest risk in timber bonds?
7. What factors should be considered when investing in timber bonds?
 
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