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PI Financial
Institutional Sales VP David Goguen sees real
potential for share price appreciation in select mining companies with
expandable resources. Through their quantitative research report Select Golds, Dave's team, including Associate Brodie Dunlop, are focused on Latin American explorers
and producers. But they don't stop there; they continue to search the globe
for companies moving through the industry lifecycle of advanced explorers and
emerging producers all the way up to junior producers. In this Gold
Report exclusive, Dave and Brodie share a few
mining plays that range in size from micro cap to liquid small cap that offer
real opportunity to leverage the power of value.
The Gold Report: When you spoke with The
Gold Report last November, you said you
were looking for undervalued plays. Valued by what measure? The value
unrecognized by the Street, or value that has yet to be developed and driven
out of the ground in the form of ounces?
David Goguen: I think
it's a combination of both of those things. It will be defined differently
depending what category you're examining. In the case of advanced explorers,
it could be a rapidly growing resource where the full scale and potential are
not yet fully recognized in the marketplace. For emerging producers, value
will be found very classically in that time period when the company is
two-thirds of the way through a project build and not generating a lot of
catalyst-rich news. That results in a bit of a sleepy period when oftentimes
we see the share price drift to levels that represent very good value.
TGR: Gold has pulled back a bit. Are you currently
telling your clientele this is a good time to buy gold mining stocks?
DG: Absolutely. We feel the gold price is going to
be very well supported above the $1,100/oz. level, and we feel that the
margins being afforded to gold producers in this $1,200–$1,300 gold
environment have not been properly reflected in the valuations for these
companies. There's still a sense that the gold price isn't sustainable at
these levels, so there's a hesitation in the valuations being afforded to
these junior producers. Therefore, they're trading at 3x–5x cash flow
when, in fact, higher valuations are merited. These juniors are generating
strong cash flow.
TGR: If gold did go down to that $1,100 support
level, could the producers still maintain earnings growth to satisfy
investors?
DG: Given the average cash cost of the eight junior
producers we track is $478 an ounce, it would leave
a very healthy margin on which to generate free operating cash flow.
TGR: Would it support quarter-over-quarter or
year-over-year growth?
DG: In the instance of these junior producers,
they're still ramping up production, so you're getting unit volumes that, in
most cases, are growing quarter over quarter. Whether we're delivering 50%
more production into a $1,300 or $1,100 gold price, I don't think it's going
to make a tremendous amount of difference. It's still going to have a
positive impact on the bottom line and result in growing cash balances that
can be plowed back into production expansion or the development of new
projects.
TGR: Your initial stock screen is enterprise value
(EV) divided by ounces in the ground (EV/Oz. Au) as estimated by the NI
43-101 resource estimates. Where do you go from that point?
DG: Certainly in the junior producer category, in
addition to the EV/Oz. Au, we're going to be looking at cash costs and
operating margins, and we're going to be looking at price to cash flow.
TGR: I imagine that the multiple of EV per ounces
in the ground is most important in the advanced explorers and less important
as you come up the scale to emerging and junior producers.
DG: I would agree with that in large part,
certainly in the case of the junior producers. Not all ounces in the ground
have the same economic impact. Different ounces have different margins
depending on mining methodology, grade or extraction costs. So, from a financial
modeling point of view and company valuation standpoint, the differences in
those ounces and the methodologies to extract them are going to have an
impact on valuation.
In the advanced explorers' category, I think the economics
and engineering are less defined; it's more about developing as large an in
situ resource as possible. There'll be differences in the valuations that the
market ascribes to these companies; but, generally speaking, we're looking to
provide a primary screen that will highlight undervalued and overvalued in
situ ounces in advanced explorers.
TGR: Does a company have to reach a certain level
of development in its most advanced project before it becomes interesting to
you or relevant to your investment strategy?
DG: We believe that being early in situations is
critical to the ultimate investment return we're going to achieve for our
clients. So, if we see 500,000 ounces (Koz.) in the
ground growing to 1.5–2 million ounces (Moz.), we'll start presenting
that situation to our clients in the belief that the geology and execution
capabilities of management will be sufficient to bring it up to size.
TGR: Under what level does the EV per ounce have to
be for you to look at it as a great value play?
DG: Well, I don't think we can look at that
particular metric in isolation. We have to look at it in the context of the
grade and style of the resource. But certainly, we're going to be attentive
to anything that's below $50/oz. and we're going to question and look to
justify valuations above $200/oz. in enterprise value.
TGR: So, if you were going to pay $200/oz. it would
have to be relatively easy to get out of the ground?
DG: Certainly, and that's the case with both Andean Resources Ltd. (TSX:AND, ASX:AND) and Extorre Gold Mines Ltd. (TSX:XG;
Fkft:E1R; OTCQX:EXGMF). They're trading at north of $200 in EV/oz.,
but in these instances the market is telling us the grade is there, that
these will be high-margin ounces and that the geology will continue to
deliver additional ounces into an expanding total resource.
TGR: Tell us about some of the companies you like.
DG: Sure. Timmins Gold Corp. (TSX.V:TMM) represents a successful emerging
producer that has transitioned to a bona fide junior producer. The company is
now producing north of 20 Koz. gold
per quarter at a cash cost of approximately $450/oz. It's trading at what we
feel is an attractive valuation. Timmins continues to expand production at
its San Francisco mine in Sonora, Mexico and it continues to expand both the
resource and mine life. We believe Timmins is underfollowed and isn't
properly valued to reflect gold prices north of $1,000.
TGR: The stock's up 74% over the past 52 weeks with
a $300 million market cap—large enough to be bought by funds but not so
small the shares are unmarketable.
DG: Excellent point; we're aware of that sweet spot
in the marketplace. Market liquidity is a critical criteria
for large resource investors. It's a sweet spot for investors in the junior
gold sector as companies with market caps exceeding $300 million tend to draw
a broader audience of institutional investors.
Timmins is continuing to pursue the acquisition of Capital Gold Corp. (TSX:CGC; NYSE.A:CGC; Fkft:CGU). Capital Gold
has the El Chanate deposit, which is approximately
60–70 km. north of Timmins' San Francisco mine. The operations are
fairly similar from a mine process perspective. Both are open-pit, low-grade
heap-leach deposits that source a number of people and engineering services
and consumables from Hermosillo, Mexico. So, we would envision some operating
and personnel synergies being generated from the marriage of the two
companies. Collectively, that would represent production of around
180–200 Koz. per
year with a market cap in the $600M range. We believe that a merger would
result in a revaluation of the combined company and would likely attract
larger resource investors compelled by the operational diversity, improved
liquidity and access to capital market funding.
TGR: How about another company.
DG: Also in Mexico, in the Sierra Madre gold-silver
belt, is Kimber Resources Inc (TSX:KBR, NYSE.A:KBX). On our valuation table, Kimber trades at under $50/oz. in the ground. It recently
completed a preliminary economic assessment (PEA) on the Carmen and Veta Minitas deposits at Monterde that define a potential low-cost, long-life
gold/silver producer profiled at 62 Koz. gold and 1.85 Moz. silver production per year for over 13
years. Through a combination of underground and open-pit mining, the
operation would produce gold at a sub-$250/oz. cash cost, assuming silver as
a byproduct credit.
The company has initiated a 30,000-meter drill program,
which is targeted toward up grading the classification of near-surface
mineralization and to test for mineralization down dip and along strike of
the known zones. Additionally, the program is going to target a number of
satellite gold and silver showings within a 3 km. radius of the main ore
body. So, we think Kimber has a lot of potential in
that it's trading at roughly one-third of its net asset value (NAV). The
30,000-meter program will likely add to its resource and highlight the long
life potential at Monterde. Kimber
in our opinion typifies the single asset, junior gold company that will
likely attract M&A interest from any growth-oriented intermediate gold
producer.
TGR: Another?
DG: Almaden Minerals Ltd. (TSX:AMM; NYSE:AAU) is a very strong explorer in
eastern Mexico. The company is headed by Chairman Duane Poliquin
and CEO Morgan Poliquin. Almaden
is one of the few true project generators out there. Morgan spent 2000 hours
in a Hughes 500 helicopter landing on intrusives
along the eastern seaboard of Mexico sampling and age-dating rocks that lead to much of the ground that is the company's exploration
portfolio today. These are large land positions generated from a macro view
of the geology that runs from Arizona down into Central America.
Drilling of specific targets is already yielding strong
results. At Ixtaca, in Puebla State, Mexico, the
company has a low-sulphidation epithermal gold
discovery that's characterized by both very high-grade veins and lower-grade
mineralization over broad intervals. The company is a dozen holes into the
project so far. It's a bona fide discovery that the market is beginning to
appreciate. The deposit model here would be similar to Aurelian Resources Inc.'s (TSX:ARU) Fruta
del Norte that was taken up by Kinross Gold Corp. (TSX:K; NYSE:KGC) via a friendly
business combination. Drilling will continue with 2 to 3 drill rigs starting
in the middle of February.
Additionally, Almaden owns the Caballo Blanco high sulphidation
gold system in Vera Cruz, Mexico. At Caballo
Blanco, Goldgroup Mining Inc. (TSX:GGA) is earning in a 70% interest in
the project. Goldgroup is presently conducting a
30,000-meter, $8M-dollar drill program to expand on a known resource and to
test an area of 5 km. by 4 km. of classic epithermal alteration. A highlight
hole from previous drilling intersected 94.5 meters at 2.09 g/t Au. Almaden has a carried 30% interest until Goldgroup delivers a bankable feasibility study.
So, there's plenty of potential in Almaden;
it's still early days in the exploration process, so we look for some
exciting news from Almaden in the first quarter of
2011.
TGR: That project has generated some great results,
but the stock is up over 235% over the past 52 weeks. And you feel like it
has more room to go?
DG: Yes. We recognize the potential of this kind of
system, which could deliver a high-grade, long-life, low-cost asset if the
initial discovery continues to play out as this deposit model has been known
to do.
TGR: What other companies do you like?
DG: We like B2Gold Corp. (TSX:BTO; OTCQX:BGLPF), a new junior producer with 120 Koz. of production in Nicaragua
at a cash cost of $540/oz. The company has a cash position approaching $50
million and aggressive drill programs around both of its existing
mines—La Libertad and El Limon. There is also interesting exploration
going on at its Cebollati gold project in Uruguay.
At Cebollati, B2Gold has just commenced a 5,000m
drill program that will follow up on some promising trenches reported in late
2010. Soil sampling, trenching and geophysics are supportive of a large
multimillion gold target.
TGR: B2Gold is unhedged,
debt free and has improved its cash cost by $131/oz. So, is the company for a
more conservative investor?
DG: I think B2Gold represents one of the best
examples of a junior producer in the junior gold space. It has a strong
management team capable of both discovering and building through its
exploration and development teams. It also has strong access to capital
markets through the executive team with a demonstrable track record of
success. B2Gold has strong production growth coupled with a solid pipeline of
exploration potential.
TGR: What did you want to mention next?
DG: Sulliden Gold Corp. (TSX:SUE;
OTCQX:SDDDF) is exploring on the Shahuindo
gold project located in northern Peru. Peru is the largest gold producer in
the Americas. This year Sulliden has a very
aggressive 70,000-meter drill program, which is one of the largest drill
programs that we know of any junior company we follow. That program will
continue on last year's work, which we believe resulted in a possible
doubling of its existing 1.8 Moz. gold resource. The company has had a
discovery cost per ounce of less than $6.00.
The geology here is really permissive to rapid resource
growth. This year's drilling will have the objective of defining additional
ounces along strike and also to test some parallel structures that have seen
limited drilling from previous operators but yielded encouraging results that
have not been followed up on until now. Management will also be testing for sulphide mineralization below the oxide mineralization at
surface. Classically, high sulphidation gold
systems like Shahuindo have sulphide
tonnage below the oxides that can be 1–3 times that of the oxide
tonnage. Shahuindo may evolve into the 5 Moz. gold
resource category of large gold deposits not yet
controlled by a major.
TGR: I noted that in mid-December, Sulliden announced an accelerated expiration initiative
for the warrants. I was thinking that that was a very bullish sign by
management.
DG: Well, certainly it's a strong signal for the
marketplace the company believes its 70,000-meter program is going to deliver
a lot of new ounces and certainly be accretive from a total resource
standpoint. The acceleration of the outstanding warrants represents an
opportunity to bring in additional capital for previously incurred dilution.
So, this basically represents the market endorsing the acceleration of the
exploration program and providing Sulliden with the
capital to work that program.
TGR: Another?
Brodie Dunlop: Sandspring Resources Ltd.'s
(TSX.V:SSP) Toroparu
gold/copper deposit in Guyana, South America, continues to profile well on
our Select Golds report, trading at under
$50/oz. They've had a very successful 2010 where they managed to more than double
the size of their current resource through 57,000 meters of drilling. Coming
into 2011, the most important catalyst for the company will be the scoping
study that is due out mid-year. That study is going to provide the market
with a bit of clarity on the economic viability of their ounces.
The most important information that's going to come out of
this study is how they intend to recover the gold and copper, and what the
cost of the recovery process are going to be. There are still a lot of
untested targets on that property that will continue to be drilled.
DG: Another name that we like in that category here
in North America is West Kirkland Mining Inc. (TSX.V:WKM), which was founded by CEO Mike
Jones and CFO Frank Hallam . They have an
outstanding track record of success. As an example, they were most recently
associated with Timmins West Mining that was taken out by Lake Shore Gold Corp. (TSX:LSG) for $440 million. There's a
similar corporate strategy at West Kirkland of tying up and exploring on land
positions along some of the historic major structures within greenstone
belts. In this instance it's in the Kirkland Lake area where they have tied
up a more than 80-sq. km. land position through both staking and
acquisitions.
The second aspect of the West Kirkland story is a large
and increasing land position in northeastern Nevada where they have entered
into a joint venture agreement with Fronteer Gold Inc. (TSX:FRG; NYSE.A:FRG) on 11
properties. We expect that market interest in Kirkland will heighten in
anticipation of drilling at both projects in Kirkland and Nevada over the
next several months.
TGR: Another?
DG: Philippine Metals Inc. (TSX.V:PHI; OTCQX:PHIXF) is another explorer that we think
represents very good value. It has a tiny market cap of under $15 million and
is an early entrant into the Philippines, an increasingly hot country in the
geological and exploration worlds. It's got a tremendous geology both for
gold and copper gold.
The company has three projects on which it is presently
exploring and also has a large copper-gold target in the Malitao
property. The company looks forward to getting its exploration permit on this
property and to commencing on a drill program that has been designed and is
ready to go. The company also benefits from a strong board of directors and
strong local representation. One of the early entrants, it is focused on
making additional acquisitions to capitalize on its presence in the
Philippines.
TGR: Is this ideal for a small hedge fund perhaps,
because it has a small market cap?
DG: I think Philippine Metals represents a lot of
potential share price appreciation through exploration success. It is
certainly of a market cap size that success at the drill bit is should be
quickly reflected in success in the share price.
TGR: Is there another one?
DG: Looking at other areas of favorable geology,
another company that we quite like and that is undertaking two exploration
programs right now is Edgewater Exploration Ltd.
(TSX.V:EDW). Edgewater has the Enchi
Gold Project in southwest Ghana in West Africa. Enchi
was acquired from Red Back Mining (which was acquired by Kinross in September
2010). The Enchi geology is analogous to Kinross's Chirano Gold mine and has been subject to over 40,000
meters of drilling, which was effective in identifying several strong gold
zones that are presently the subject of a newly initiated drill program.
At Enchi, a soil-sampling
program has yielded several anomalous gold trends, the largest of these gold
in soil anomalies is located in the southeastern section of the gridded area
and measures 4.2 km. in length and averages 0.5 km. in width. Edgewater will
be targeting these new gold trends with drilling starting immediately.
In addition to Enchi, Edgewater
owns the Corcoesto gold project in Spain. Edgewater
is conducting a multi-rig 12,000m drill program to strengthen and expand an
existing resource. Recent results include 10.72 g/t Au over
17.0 meters and is the best grade-X thickness interval on the project
to date and is indicative of managements growing understanding of the
mineralization at Corcoesto. We expect the next
several months to be exploration news rich for Edgewater.
TGR: Thank you, Dave and Brodie.
David Goguen, CFA, vice
president, Institutional Sales, has been focused on the mining sector at PI Financial for 13
years. David has 18 years of investment experience servicing institutional
and private client portfolios.
David earned a BA in economics from Carleton University
and holds the Chartered Financial Analyst designation. Brodie
Dunlop, associate, Institutional Sales, joined PI Financial's
Institutional Sales desk in 2009. His primary focus is on the resource
sector. Brodie earned a BA from the University of
Concordia and studied finance and accounting at the University of British
Columbia. Brodie services Canadian, U.S. and
international clients.
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DISCLOSURE:
1.) George Mack conducted this interview. He personally
and/or his family own shares of the following companies mentioned in this
interview: None.
2.)The following companies
mentioned in the interview are sponsors of The Gold Report: Extorre, Timmins, Capital Gold Corp., B2Gold, Sulliden, Sandspring and
Philippine Metals.
3.) David Goguen: I personally
and/or my family own shares of the following companies mentioned in this
interview: Almaden Minerals, Kimber
Resources, Philippine Metals and West Kirkland Mining. I personally and/or my
family am paid by the following companies mentioned
in this interview: None.
4.) Brodie Dunlop: I personally
and/or my family own shares of the following companies mentioned in this
interview: West Kirkland Mining and Kimber
Resources. I personally and/or my family am paid by
the following companies mentioned in this interview: None.
The Gold
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