Great frauds in history: the Bre-X gold-mining scandal

Matthew Partridge looks at what we can learn from the Bre-X gold mining scandal that cost investors $75m.

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Bre-X Minerals was a mining firm founded by David Walsh in 1989, and originally listed on the Alberta Stock Exchange (it later moved to the Toronto Stock Exchange). In 1993 Walsh bought land in the Philippines on the advice of geologist John Felderhof (pictured). In 1995 Michael de Guzman, who oversaw the project, announced he had discovered gold in the area. This caused the firm's shares to rise by the summer of 1996 to a peak of nearly 1,000 times from their original flotation level (adjusted for stock splits), giving the former penny stock a market capitalisation of $6bn.

What was the scam?

As is standard in the mining industry, Bre-X's claims about its "discovery" were based on samples of rock drilled from the land it had acquired, which contained a relatively large amount of gold. It later emerged that someone at Bre-X (possibly de Guzman) was "salting" the samples by adding gold flakes to them. Despite implying that its estimates were verified by a respected Canadian engineering firm, Bre-X kept all testing in-house and destroyed the samples.

What happened next?

Bre-X's deception came to light when an attempt by Barrick Gold to take over the site led Bre-X to agree to a joint venture with the Freeport-McMoran mining firm and an Indonesian fixer. Shortly after the deal was announced, a mysterious fire destroyed the firm's records.

De Guzman supposedly fell from a helicopter en route to meet with Freeport's executives (one of his ex-wives would claim he was still sending her money after his supposed death). Shortly afterwards Freeport announced it had found insignificant amounts of gold; this was confirmed by independent analysis. In May 1997, Bre-X filed for bankruptcy.

Lessons for Investors

In June 1998 Walsh suddenly died of an aneurysm. Despite selling up to $75m worth of stock before it collapsed, Felderhof was acquitted of fraud and managed to block a class-action lawsuit against him. Further lawsuits against the company returned such a nugatory amount it was donated to charity. The whole episode shows that investing in mining stocks, especially on lightly regulated exchanges such as the Toronto Stock Exchange, is always risky, especially if there is no independent verification of geological finds. It's useful to check to see whether insiders are selling their shares.

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