1. Introduction
The Critical Investor: After doing a pretty interesting interview with my Dutch fellow countryman Kees Dekker, it
is time to show an example of his analyst reports. This is a critical
analysis of a new junior gold producer, Atlantic Gold
Corp. (AGB:TSX.V). This company was actually one of my favorite holdings for
a long time, despite this I no longer have it in my portfolio as I view it to
be fair valued since Q2, 2018. The basis for this article is an analysis
privately made by Kees, and after I got to read this report it seemed
interesting to me to contact Atlantic Gold management, in order to see if
they would provide constructive feedback.
Fortunately they did, and the result is an analysis with several rounds of
feedback by both Atlantic and Kees. Yours truly also added several questions,
opinions (sometimes differing from Kees and/or Atlantic as we all have
different views) and remarks here and there, as I love doing this anyway, but
also in an attempt to provide more reference, and get things more clear for
myself and the audience. As the combined analysis with feedback resulted in a
45-page article, my syndication websites deemed it much too long for
publication, so I decided to have it syndicated by providing just the
executive summary with feedback. The full-length article including feedback
can be found soon on my own website, www.criticalinvestor.eu.
All presented charts are provided by Kees Dekker, unless stated
otherwise.
Comments are by Kees Dekker unless marked otherwise.
2. Executive Summary
Atlantic
Gold Corp. (AGB:TSX.V) is a Canadian gold mining company, which has a
number of projects in Nova Scotia, Canada, together referred to as the Moose
River project. After acquiring in August 2014 the first two of these
projects, Touquoy and Cochrane Hill, Atlantic rapidly proceeded to acquire
two more projects, Beaver Dam and Fifteen Mile Stream, close to Touquoy. The
combined projects had sufficient critical mass to be developed to a mine and
construction at Touquoy was given the go-ahead mid-2016. Commercial
production was reached on 1 March 2018, which was within budget and on time.
The market has greatly rewarded Atlantic Gold's performance by increasing
the share price five-fold since February 2016.
This study has had great problems with reviewing the business plan to
determine whether the share price performance and current capitalization are
properly underpinned by the intrinsic values of the projects. The 2018
technical report, which purports to substantiate the merits of the Moose
River project, is basically a cobbling together of two reports.
Atlantic Gold commentary: This is not correct. The recent report
published in 2018 supports the disclosure of new Mineral Resources and
Mineral Reserves at Fifteen Mile Stream and Cochrane Hill underpinned by new
drilling, resource models, metallurgical testwork, operating costs, pit
designs, plant design, and all other modifying factors that must be
considered when assessing economic viability.
The first study, completed in 2015, is about production starting from
Touquoy and the adjacent Beaver Dam deposits (referred to as Phase 1). The
other part of the report deals with production from 2021 onwards from Fifteen
Mile Stream, followed by Cochrane Hill (referred to as Phase 2 Expansion).
The cobbling-together approach to the combined study report is evident from
Phase 1 parameters not having been updated, even including the forecast
capital expenditure in 2016 and 2017.
Atlantic Gold commentary: We stated in the technical report that we
would update the numbers once we had 12 months operating data.
Response Kees Dekker (KD): It still makes for mixing outdated information
into a new study.
The cash flow report refers to Year 1, Year 2, etc., rather than giving
actual calendar years.
Atlantic Gold commentary: Please refer to the detailed explanations
relative to NI 43-101.
(The Critical Investor (TCI): Atlantic provided a detailed document
confirming it did comply with regulations).
Response KD: I am confident that you fully adhered to NI.43-101
regulations, otherwise you would not have been allowed to publish. However,
if the purpose of technical reports is to fully inform the reader, one should
include a lot more. The limitations of NI 43-101 requirements are, for
example, evident by the gross majority of producers being able to
consistently publish "reserves" yet rarely able to pay dividends.
Basically the mines/projects at best sustain themselves most of the time.
Often shareholders need to chip in to keep the companies afloat.
Atlantic Gold commentary: The company is generating substantial free
cash flow.
TCI commentary: I have to admit that actual capex could have been
updated in this combined report, with opex pending for the first full year of
production. Using one quarter of opex figures of a ramping up mine was not
helping anyone in my view, so it made sense to wait for a full first year of
production data.
The review of the report raises a number of concerns, such as:
- The grade of estimated resources is heavily influenced
by only a few high-grade to very high-grade composite values. These have
not been capped, or their influence on the grade of surrounding blocks
limited. The average grade of the two Touquoy deposits planned to be
mined first is better supported by many assays and less affected by a
few high-grade values. Any plant feed grade problems may therefore only
become apparent in future. In this respect early indications of problems
with are the actual feed grade in 2018. This has been 1.35 g/t for the
first six months and lower at 1.28 g/t in the June quarter. The milled
grade is exactly as forecast at 1.35 g/t for the full year. However, of
ore mined 49% was stockpiled at a grade of 0.51 g/t (see MD&A Q2
2018), which is much lower than the planned 0.78 g/t Au. When
back calculating, this indicates that the average grade mined was 0.96
g/t Au, which is far below planned mined grade of 1.30 g/t Au for the
full 2018 year as is shown in the table below.
Atlantic Gold commentary: The lower grade in
H1 2018 was due to the mine having to modify its working sequence because of
the removal of historic tailings that required removal procedures to be
approved by the provincial regulators.
Response KD: The explanation by Atlantic Gold
management that the lower grade was due to the mine having to modify the
working sequence, because of the removal of historic tailings does not
explain the lower grade, at best the fact that equipment had to be used for
tailings removal and not available for mining ore and waste and the lower the
planned strip ratio.
TCI Commentary: The company tried to explain
this in the MD&A of Q2 2018:
"During the first half of 2018, a total
of 1,852,353 tonnes of ore were mined, at a waste to ore ratio of 0.85:1 with
a total of 3,421,473 tonnes of material moved. Approximately 49% of the ore
mined in the first half of 2018 was stockpiled as low and medium-grade
material which will be readily available for processing later in the mine
life. This material was assumed to be waste in the 2015 Feasibility Study.
Waste material was used to build the Tailings Management Facility (TMF) and
the waste dump with its ditches and water collection area."
Wrongly assuming waste to this degree is
worrying in my view. The chances of mis-categorizing ore as waste and vice
versa seem significant when using the uncapped high-grades with a large
search radius to influence neighboring block grades. These high grades have a
nugget component of 80% of the grade. Therefore the risks of much lower
average grade than forecast are real, and I am really wondering if Atlantic
can mine as selectively as it says.
Response KD: How can moving tailings have
anything to do with the grade of ore mined? Refer to the table above;
noticeable is that they have mined much less waste than planned, probably to
be able to hit ore mining harder (twice planned rate!) to get sufficient
higher grade blocks to achieve planned mill grade. This points to them having
grade trouble, I have no doubt about that.
Atlantic Gold commentary: It should be noted
that the 2015 FS did not include a stockpiling strategy, which was developed
in 2017 to consider both pit discard and economic cut-off grades based on
known costs. Grade control drilling on a 5m x 5m pattern is used for
ore/waste definition not the resource model. For the year to date grade
control model to mill reconciliation is within 1%. Reconciliation is done to
bullion. On selectively, the author offers an opinion not facts.
Atlantic Gold commentary: On the estimation:
To say "the grade of the estimated resources is heavily influenced by
only a few high-grade to very high grade composite value" is to pass
naïve comment on almost all gold deposits where the sample Coefficient of
Variation exceeds 2, which includes probably 99% of all gold deposits. Yet
there are many gold deposits in production today and over the past 20 years
with these characteristics—and which are using or have used the same or very
similar approaches to resource estimation and production as the Touquoy
Deposit—and have performed very well in production. There are no strong
reasons to expect that these characteristics of the Goldenville style gold
mineralization will have a stronger negative influence on profitability in
these deposits than anywhere else. Finally, production in the first year was
focused on the eastern part of the pit, not the west side. The western
portion was developed early as a quarry to extract waste used in the roads
and tailings dam construction.
Response KD: Yes, the coefficient of variation
(CV) of gold deposits is typically higher than 2, but in the case of Moose
River project quoted between lowest at 4.15 (Domain1 Touqouy) to highest at
10.3 (Egerton/Plenty). With respect to Touqouy there is much less concern as
the 90-percentile variogram has a much lower nugget component. The concern
revolves mainly around the other deposits with higher CV and 90 percentile
variograms with very high nugget component. The estimation approach for these
did however not cap high grades and put no restrictions on search dimension,
which is often used for other deposits. In this way a few very high-grade
samples will have a large effect on average grade. Given that initial mined
production has a much lower grade than planned indicates that the concerns
raised are valid, even for Touqouy, which was deemed less risky than the
other deposits.
TCI commentary: Canadian Malartic stays
below 2 and Detour sits around 3, I believe, but both don't rely on high
grade as much. The MRC FS states at p.14-7: "A cumulative histogram of
the mineralized 2 m composite gold grades indicated that grades are strongly
positively skewed with a coefficient of variation of 9.4, indicating a high
proportion of very low-grade samples and a small tail of high composite
grades greater than 100 g/t Au. The maximum composite grade of 257 g/t Au is
some 490 times the average composite grade for the data set. An evaluation of
the conditional statistics indicated that the 95 highest-grade composites
account for approximately 48% of the total gold content of the
composites." I must say this inclusion and gold amount of uncapped
samples doesn't instill a great deal of confidence but adds risk, and I
believe (as myself being a non-geologist) that Kees could be on to something
here, certainly taking into account the apparent mis-categorization of ore as
waste.
Atlantic Gold commentary: Irrelevant as the
grade control model is used for planning purposes. Moreover, there was no
miscategorization of ore and waste; the stockpiling strategy had not been
defined at the time of the FS.
TCI commentary: I am also wondering if
mining low grade ore isn't much more expensive than stripping waste at this
project.
Atlantic Gold commentary: The difference
between ore and waste mining is in the order of $0.03/tonne.
- The plant feed grade assumes very low unplanned
dilution, whereas the chosen small selective mining unit (SMU)
introduces much risk of such unplanned dilution.
Atlantic Gold commentary: The author does
not take into account that short-range planning is based on the grade control
model built with data on a 5m x 5m grid. Moreover, ore and waste are blasted
separately to better reduce dilution. Approximately only 20,000 tpd are mined
using relatively small equipment (in the mining space) including excavators
as opposed to shovels. Ore width often exceeds 30m.
Response KD: Extra attention and mitigating
measures may help, but in practice selective mining and unplanned dilution
are bedmates.
TCI commentary: Canadian Malartic has a
mining dilution of 8%, ore loss I believe 0% but not sure, study didn't say
ore loss but just no mining loss. Detour has a mining dilution of 3.8%, and
ore loss of 5%.The numbers of Atlantic are mining dilution of 1.6% and ore loss
also 1.6% (98.4% mining recovery). Forecasted recovery is 98.4%, which was
very high, in reality it has 94.7% for H1 2018. Detour has 91.2% and Malartic
88.6% for FY2017 and had 89.4% planned in the FS.
Atlantic Gold commentary: Comparing
200,000 tpd operations that use large shovels and trucks with a 20,000 tpd
operation using excavators with small buckets does not apply.
- The pit designs have been based on pit shells that are
very sensitive to small changes in input parameters. At the current gold
price they are certainly sized too large, irrespective of the risk of
underestimating operating cost (see more on this below).
Atlantic Gold commentary: Taking into
account the Canadian dollar gold price that the pits were optimized on
(~CDN$1450 for Phase 1 and ~CDN$1600 Phase 2) the change to today's Canadian
dollar gold price of ~CDN$1580 is not that significant. Higher cut-off and
discount rate used for pit optimization therefore conservative.
Response KD: The cut-off grade is higher is
higher than what? The reserves were established based on a cut-off grade of
0.40 g/t Au, which is substantially lower than the 0.5 g/t cut-off grade used
for resources. An 8% discount rate is appropriate at this stage.
- The production schedule assumes that stockpiling is such
that material can be reclaimed with much higher grade than the average
grade. It is very doubtful this can be achieved without much additional
grade control effort and expense.
Atlantic Gold commentary: Scheduling assumed
high and low-grade stockpiles would be created. The reclaiming of stockpiles
targets the high-grade stockpile initially followed by the lower grade;
however, this was summarized in the technical report as a single stockpile.
Response KD: The point I am making is that this
will require additional grade control and stockpile management, which will
add to expenses.
Atlantic Gold commentary: No additional
grade control as all material to be mined is going to be grade controlled as
per budget. And it was always the case in the projections. Stockpile
management or waste dump management are pretty much equivalent in terms of
operating costs except for a small re-handle cost.
TCI commentary: To what extent would opex
rise with this grade control compared to no grade control? I don't believe
that Malartic has grade control. Detour has grade control as well, don't know
to what extent though.
- This study shows that the mining cost suggested by
Atlantic Gold is much lower than actual cost at the much larger Detour
operation with a simpler mining process and using much larger mining
equipment and much lower than the Canadian Malartic operation in H1 of
2018 based on reported figures. Moreover, initial actual Q2 2018
operating unit costs are clearly higher than forecast for Touquoy.
Atlantic Gold commentary: Comparing the
mining costs at Detour with Moose River is like comparing apples with
pineapples. Detour is by no stretch of the imagination a simpler operation
despite the higher mining rate. Also, Detour has higher fuel costs, longer
haulage distance and much higher labor costs due to the FIFO nature of its
operations. Mining costs at MRC are well-known since Atlantic has the benefit
of more than two years of operating data. Mining cost/t is a bit lower than
the PFS, G&A/Processing is a bit higher due to above expected
maintenance, but the company is actively working on a large number of tweaks
and improvements. The Feasibility study has $9.00 to $10.00/tonne processing
cost. We expect the costs to vary between $10.00 and $12.15 depending on the
maintenance required. Higher costs are mostly on maintenance while we make
tweaks to the crushing circuit and also labor costs because we are building
capacity and capabilities for the other projects.
Response KD: I record that no benchmarks are
provided to show that the Detour and Canadian Malartic numbers are not
representative. The actual Q2 operating cost of Moose River indicates an
overrun of 10%.
TCI commentary: The study mentions C$690/oz
AISC on average, for H1 2018 realized is C$746/oz so looks higher although
still first year so I consider this very decent. The excessive low grade
stockpiling points to underlying issues though, in my view.
- Atlantic Gold suggests that the operating cost at Phase
2 operations, which are at some distance from Touquoy and require extra
handling and transport cost, are lower than for Touquoy. This is not
sufficiently substantiated and deemed not credible.
Atlantic Gold commentary: Phase 2 is based
on production of a gold concentrate at both Fifteen Mile Stream and Cochrane
Hill, which is transported to Touquoy for final processing. Reduced costs
associated with concentrate production can be attributed to the following:
- Incorporated "Hydrofloat" technology
allowing larger grind size thus reducing grinding costs.
- Reduced reagent costs compared to Touquoy.
- Transportation costs significantly reduced due to
transporting concentrate vs. run of mine ore.
- Optimization of personnel across projects.
Response KD: The reagent cost will be
beneficially lower for treating concentrate compared to gravity tailings at
Touquoy/Beaver Dam, but unlikely to be that much lower as provided for.
Against the advantages stand regrinding of concentrate, transport to and
double handling at the Touquoy plant. Given the modular nature of the
expansion, little prospect for economies of scale
Atlantic Gold commentary: Author cannot
support that assertion without a full understanding of detailed costs.
- The business plan looks very much a paper exercise and
is not practical as the graph below illustrates.
Forecast
Total Material Mined Over the Life of Mine
The planned expansion is for tripling of plant
throughput.
Atlantic Gold commentary: This is not
correct. For the purpose of the study throughput is planned at 2,000,000
tonnes (and is not tripled). Pre-concentration plants will be constructed at
Fifteen Mile Stream and Cochrane Hill with a throughput of 2,000,000 tonnes
each. This will require transporting 50,000 to 70,000 tonnes of concentrate
per year to the Touquoy processing facility.
Response KD: Yes, that is when considering the
throughput at Touqouy only. I will rephrase accordingly to bring out that it
is a tripling in the comminution rate.
TCI commentary: This AG comment feels like
semantics, in the end three plants of 2,000kt each are build, and only
Touquoy has the final processing facility to handle the concentrates of FMS
and CH. To build three mills and crushing circuits (three standalone
operations) each lasting five to six years does sound inefficient. But bottom
line the post-tax FS IRR of about 28-30% @$1200/oz Au is good for a gold
mine, if realized of course.
- Theoretically this schedule is achievable, but it is a
very inefficient approach with the company having to use contract
miners, alternatively staff and equip up for a few years, to retrench
and dispose of the equipment soon thereafter. The schedule should be
seen as impractical.
Atlantic Gold commentary: We do not use
contract miners. This is an impractical schedule only if you are not an
operator. Production is from four separate operations. Phase 1 will see
equipment utilized between TQ and BD. FMS and CH will be separate operations
requiring their own fleets to be utilized over a five-year mine life.
Response KD: I do not follow the reasoning.
When you want to increase overall plant feed, no matter from where it is
derived, mining rates will have to increase dramatically requiring additional
equipment and staff for those years. Redeployment is possible between
operations when one reduces/closes down and another starts up.
- The business plan looks even less practical when
considering the forecast cash flow using the gold price of US$1,199/oz
and exchange rate of C$1.29/US$ at 3 October 2018 shown in the diagram
below.
Cash
Flow Forecast – Atlantic Gold
The above graph shows that the company's
financial performance is totally dominated by having to ensure it has the
required funding to develop first Fifteen Mile Stream and a year later
Cochrane Hill. Once constructed the Moose Rover project has five years life
left should it not be very successful in identifying additional reserves.
At the share price of C$1.59 on 3 October,
Atlantic Gold has a market capitalization of C$376 million. When accounting
for dilution and net current assets, but ignoring the effect of loan
servicing because the cash flow model has accounted for this, an Enterprise
Value of C$370 million (US$287 million) is derived. This is almost 40% higher
than the net present value of the cash flow model, which is C$266 million for
a discount rate of 7.5%. This value was derived assuming that the very low
operating cost rates proposed by Atlantic Gold are valid.
TCI commentary: I would like to see the DCF
model provided by Atlantic to see exactly what is going on, also mostly all
economic studies have one. The sensitivity in the study generates a post-tax
NPV of around C$370M @$1200/oz Au. However, in my opinion the value of a
producer is much better indicated by P/CF multiples (P is share price, CF is
operational cash flow annualized per share). Atlantic is operating at about a
CF of about C$80 million annually now, which implies a P/CF of less than 5,
which is low for a low-cost, good-jurisdiction producer (8-10 is more
standard). But on the other hand, the company has to re-invest internal CF
for phase 2 so this limits FCF output in 2020-2021; it might have grade
issues and it has additional ramp up risks of three new pit operations.
3. Conclusion
In conclusion, this valuation points to Atlantic Gold being heavily
overvalued, irrespective of the many concerns. Overvaluation of producing
companies is a feature of the equity markets. That is why this report
emphasises not the overvaluation, but the concerns about the business plan,
which could mean that the calculated value of C$266 million, based on the
inputs of Atlantic Gold, is far too high.
This ends the executive summary of Atlantic Gold by Kees Dekker, the full
analysis can be found on my website www.criticalinvestor.eu soon. If you have
an interest in contacting Kees, this is possible through using the contact
form which can be found on my website www.criticalinvestor.eu as well. Stay
tuned for more analysis by Kees coming soon.
I hope you will find this article interesting and useful, and will have
further interest in my upcoming articles on mining. To never miss a thing,
please subscribe to my free newsletter on my website www.criticalinvestor.eu,
in order to get an email notice of my new articles soon after they are
published.
The Critical
Investor is a newsletter and comprehensive junior mining platform,
providing analysis, blog and newsfeed and all sorts of information about
junior mining. The editor is an avid and critical junior mining stock
investor from The Netherlands, with an MSc background in construction/project
management. Number cruncher at project economics, looking for high quality
companies, mostly growth/turnaround/catalyst-driven to avoid too much
dependence/influence of long-term commodity pricing/market sentiments, and
often looking for long-term deep value. Getting burned in the past himself at
junior mining investments by following overly positive sources that more
often than not avoided to mention (hidden) risks or critical flaws, The
Critical Investor learned his lesson well, and goes a few steps further
ever since, providing a fresh, more in-depth, and critical vision on things,
hence the name.
Disclaimer:
The author is not a registered investment advisor, and currently has no
position in any of the companies mentioned in this article. Kees Dekker is
also not a registered investment advisor, and currently has no position in
any of the companies mentioned in this article. All facts are to be checked
by the reader. For more information go to the websites of the mentioned
companies and read the available company information and official documents
on www.sedar.com, also for important risk disclosures. This article is
provided for information purposes only, and is not intended to be investment
advice of any kind, and all readers are encouraged to do their own due
diligence, and talk to their own licensed investment advisors prior to making
any investment decisions.
[NLINSERT]
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