The Gold Report: Heiko, you cover many
companies in Latin America. One silver miner in Mexico is challenging an
eviction notice from its property in Chihuahua, Mexico, which is causing a
stir in the mining industry. Does that give you cause to reevaluate Mexico as
a mining jurisdiction or is this an isolated
Heiko Ihle: Mexico is a more
challenging mining jurisdiction than the United States or Canada, but it's
also a much easier place than Bolivia, for example. There are some common
challenges with mining there. One of the companies I cover, Fortuna Silver Mines Inc. (FSM:NYSE; FVI:TSX;
FVI:BVL; F4S:FSE), has some issues with the community in Oaxaca. This
sort of thing happens all the time, and it's mostly business as usual.
TGR: What sort of gold and
silver prices are you using in your models to evaluate these companies?
HI: I'm a stock analyst, as
opposed to a macroanalyst, so I use conservative numbers: $1,600/ounce (oz)
long-term gold prices and $34/oz long-term silver prices. In the long term,
those numbers are likely to be a little too low, but they produce a margin of
safety to our net asset value (NAV) and cash-flow models.
"I look at the
microeconomic company-specific factors and make my decisions
TGR: The silver companies
you cover in Latin America are for the most part outperforming your gold
companies. Does this make you more bullish on silver than gold, or are you
evaluating specific cases and what those specific equities offer?
HI: I look at specific
cases because the best gold company can't prosper if it can't get gold out of
the ground at a decent cash cost. Similarly, the best silver company won't
flourish if a community demonstration shuts down its plant. Again, I am an individual
equity analyst; I look at the microeconomic company-specific factors and make
my decisions accordingly.
TGR: What are three
must-haves for the companies you cover?
HI: The number one thing is
good management. Bad management can run the best company into the ground.
I've seen it in stocks that I covered and in stocks that I owned.
TGR: How do you quantify
HI: If I speak with a
management team and I get the sense that it doesn't understand what's going
on, then that would put it into the bad management category. If it
continuously disappoints, if it continuously over-promises and
under-delivers, that would put it into the bad management category. I worry,
too, if there is no coherent team—even if the CEO, CFO and chief geologist
are great people, there is a chance that they do not work well together. It
sounds simplistic, but I always pay close attention.
TGR: What are the other
HI: A company must have a
good asset. Even if it has great management, if a company doesn't have a good
asset, nothing's going to be pulled out of the ground. It needs to have a
decent land package with room for expansion. The grades need to be right. The
type of ore needs to be right. It needs to be permitted or have decent
progress toward permitting. The third must-have is a functional mill with
potential for expansion. The chain is only as strong as its weakest link, and
if one of these factors is broken, the whole system is going to crumble.
"Bad management can
run the best company into the ground."
I do a lot of site
visits to evaluate the mills. I look for spare capacity, and I go through all
the geological reports for permitting.
TGR: Does that mean you're
looking only at producers?
HI: Not necessarily. I
cover Romarco Minerals
Inc. (R:TSX). It is still in the
permitting phase, but it has made good progress toward a permit; it is so
confident that it will get the permit that it already bought the ball mills.
TGR: What is Romarco's
HI: The Army Corps of
Engineers should let it know early next year. My gut feeling is that it will
be in production in 2015.
TGR: Let's move into your
coverage of precious metals companies in the Americas. Aurizon Mines Ltd.'s (ARZ:TSX; AZK:NYSE.MKT) earnings per share were
less than half of what they were in the same period a year prior, Q3/11. The
company's cash costs rose to $759/oz in Q3/12 versus $497/oz in Q3/11.
Nonetheless, you have a buy rating on Aurizon.
HI: Yes. Aurizon is going
through a transitional year. It is going through a shaft deepening at the Casa
Berardi mine. Meanwhile, several other companies that can afford higher wages
are poaching its workers. The shaft deepening frequently shuts down
production at the site, and the same thing will happen in 2013, which is why
my 2013 production numbers are lower. Cash costs are higher and may be even
higher next year, when production will dip to 130,000 oz. However, this is
temporary and ultimately will serve as an investment in the company's
TGR: In a recent research
report on Aurizon, you said you believed that, with about $200 million (M) in
cash, "the firm will engage in favorable M&A activity." What
sort of projects or targets is it likely to pursue?
HI: Several projects in the
area are in the $40–100M market-cap range. Two in the same mining camp
are fairly widely known.
TGR: What is your
12–18 month target on Aurizon?
HI: It is $5.20/share.
TGR: Endeavour Silver Corp. (EDR:TSX; EXK:NYSE;
EJD:FSE) had a strong Q3/12, with production increasing by
about a third. You have a buy rating and a 12-month target price of $11.70 on
the company. After such an impressive quarter, will there be room for more
HI: A good part of
Endeavour's Q3/12 growth came from its recently purchased El Cubo mine in
Mexico. That is where growth in 2013 and beyond should come from; the mine
should produce 1.1 million ounces of silver next year, compared with about
400,000 oz this year. Endeavour also has some growth at Guanacevi and Bolañitos.
This growth should lead to more cash flow and potentially more acquisitions
for the company.
TGR: Endeavour bough El Cubo
from AuRico Gold Inc. (AUQ:TSX; AUQ:NYSE) in July.
What were your thoughts when that transaction occurred?
diversify by going across base metals, gold and silver, they will be doing
themselves a favor."
HI: I liked the
acquisition, and I liked it even more after I visited earlier this year, when
Endeavour took a number of analysts down for a site visit—it really
showed how much of a turnaround it has made. After it took over, Endeavour
essentially doubled grades within six weeks because it started following the
veins instead of randomly mining into the mountain and processing waste rock.
I would expect Endeavour to have a good part of the transmission done next
year, and my grades are improving for El Cubo as well.
TGR: Considering its growth,
do you think Endeavour will introduce a dividend?
HI: No. It is more focused
on growing the enterprise through more acquisitions. Endeavour has a very
good track record for acquisitions.
TGR: Yes, Endeavour has made
a number of badly performing assets perform.
HI: The day Endeavour
closed on El Cubo, the NAV was already substantially
above what it paid.
TGR: You also cover Fortuna
Silver Mines, which had a great Q3/12 and is poised to exceed its production
guidance for 2012. Do you expect similar performance in 2013?
HI: The company has good
production numbers at its San Jose mine in Mexico, though there are community
protests there. Offsetting that, however, is the Caylloma mine, which is in
Peru. I visited it about a year ago. Labor costs are going through the roof
at that site, so while production is very good, its cash costs have been rising more than everybody anticipated. The company should
have a good 2013, but there will be some cash costs challenges, and it is
already working on those.
TGR: In a recent research
report, you said Fortuna continues to search for midsized acquisitions in
Central and South America. Given the difficulties it has faced at Caylloma
and the mine's higher than anticipated labor costs, which juniors in Peru or
nearby might be a good fit for Fortuna?
HI: Fortuna is looking into
private enterprise like smaller private mines that it can buy or privately
owned land packages that it can attach to its mines. It probably will not buy
a public junior company.
TGR: What is it looking for?
Is it looking to bring more feet into Caylloma?
HI: Fortuna is looking for
a separate project, which is what it should be doing because it diversifies
risk. A good example is Aurizon, which has a single asset. Right now, that
single asset is going through a tough time and that punishes the entire
company. If a company has four assets and one goes through a tough time, it
has much less impact.
TGR: What is the next
catalyst for Fortuna that will get it to your $6.60/share, 12–18 month
HI: It needs to get cash
costs under control, which it should be able to do once labor pressures
subside; labor is the biggest factor.
TGR: Is your $6.60/share
target price a buy rating?
HI: Yes. That is an upside
TGR: Great Panther Silver Ltd. (GPR:TSX;
GPL:NYSE.MKT), on the other hand, had a poor Q3/12. Earnings per
share were halved, and total revenues declined 6% year over year. You have a
12 month target of $2.20/share on the company, but it is trading around
$1.60/share. What will push it higher?
HI: Great Panther is also
experiencing challenges. The droughts in Mexico this year forced it to
stockpile ore because the mill wasn't able to take on the capacity.
Meanwhile, some thought Endeavour would take over Great Panther because it was
a logical target. However, since it took over El Cubo, there is less of a
chance of Endeavour buying Great Panther. Revenues should grow nicely next
year. I was disappointed by 2012 results year-to-date, and my price target
has gone down as well, but the NAV discount remains. In the longer term, it
should hopefully be able to get those assets' value.
TGR: What is it trading at
versus your NAV?
HI: My NAV is at
$1.80/share. The 20% premium gets rounded, that is $2.20/share. That consists
of $1.44/share for Guanajuato and $0.22/share for Topia, which includes the
drought issues. That is $249M for the overall company, including cash and
exploratory assets and such.
TGR: Rio Alto Mining Ltd. (RIO:TSX.V; RIO:BVL) operates the La Arena
gold-copper mine in Peru, and its share price has trended higher throughout
most of 2012. Can investors expect further growth?
HI: Yes. The second part of
the company's project goes on-line in a couple of years, and a lot of copper
is being taken from the site. The stock should fare well. Rio Alto is also
doing something many others wish they could do, which is growing through
internal cash flow, so it doesn't have to dilute shareholders. It doesn't
have to issue a lot of debt or equity; it is using the free cash flow from
its first site and using that to grow.
TGR: Could you give us an
overview of Rio Alto? The company has done well this year, but it isn't
HI: It owns La Arena, which
is about 1,000 hectares, in Peru. It is a gold mine currently and a future
gold and copper project. It has an approximately 26,000 hectare land package
around there, and it currently produces from the La Arena oxide project, the
gold project I just mentioned. That is open-pit mining, and in about 2016,
the sulfide project will come on-line. That is where most of its cash is
going right now, and at that point it will also produce copper at the site.
TGR: When you met with
management from Rio Alto, what stood out?
HI: It has performed so
far, and many companies in this space can't say that. CEO Alex Black is a
good guy and the team he leads with CFO Tony Hawkshaw has delivered on
everything it said it would, including time tables, grades and proper sales
of the metal. It also got lucky this year; the grades from the site were at
least temporarily higher than the company and all the analysts had thought
they would be.
TGR: You recently downgraded
Ltd. (SSL:TSX.V) to neutral. What was
HI: That decision was due
to valuation. The gold streaming business is still a good business. And I
still like the company's management, which has achieved a lot in a short
period. Right now, in a period of high gold prices and a fixed cash cost,
many are selling gold for twice what it costs to take it out of the ground.
It is a terrific business. Nonetheless, at some point, even the best business
becomes fully valued, and I believe Rio Alto reached that point at
$13.50/share. That is where it was when I downgraded it. Now the stock is a
lot lower; it is trading around $11.50/share.
TGR: The company has
royalties on quite a suite of mines. This is a highly profitable business,
given the margins and the tax considerations in Canada, but as more people
catch on, will more companies enter this space, growing the competition for
those royalties and shrinking the margins?
HI: A lot of streaming
agreements are like pawn shops: companies go there because they can't go
anywhere else. That is what has held the industry's margins up. If everybody
else were to come out and do the same thing, it could drive the companies'
costs of funding a little lower—but that won't happen. Also, a
streaming company can err and invest in mines that never reach production
only so many times until it is broke.
Of course, there are
more streaming companies now than there have ever been, and there are more
juniors than before, too. All it takes is a project, a dream, an engineer and
TGR: The share price for
Sandstorm Gold shot up and people made money, and now you say it has come
back to earth. Is growth coming from the price of these commodities—or
how will a streaming company like Sandstorm grow
HI: The growth will come
twofold. The mines it has streaming agreements on are going to enter
production or grow production; that is one way to grow. A second way to grow
is to issue more capital, which Sandstorm has done this year, and then use
that to buy more streams in their infancy.
TGR: Are you bullish on Colossus Minerals Inc.'s (CSI:TSX;
COLUF:OTCQX) Serra Pelada mine, in which
Sandstorm has a royalty, and when that comes on, will it be a significant
contributor to Sandstorm's revenue?
HI: I don't follow
Colossus, but I do feel good about that mine. I put out a report on it as
TGR: What segment of the
precious metals market is going to provide retail investors with the best
bang for their buck in 2013?
HI: I suggest people figure
out what area they want to invest in, then narrow it
down to a couple of companies. Go back to those three must-haves that I
mentioned. Look into management, look into the assets and look into the
permitting and the operational phase of the firm.
I would also say people
should diversify. And if they just go across base metals, gold and silver,
they will be doing themselves a favor.
TGR: So your advice is to
evaluate individual companies and divide the portfolio up by commodity.
HI: Yes, and commodities
shouldn't be your full portfolio.
TGR: Thank you so much,
Heiko Ihle joined Euro Pacific Capital in November 2011
as a senior research analyst covering companies in the mining and engineering
and construction (E&C) industries. Prior to joining Euro Pacific, Ihle
spent over six years with Gabelli & Company, more than five of which as a
research analyst. While at Gabelli, he was awarded second place in the 2010 Financial Times/StarMine
Top Analyst Awards for the Engineering & Construction space. A native of
Germany, Ihle received his bachelor's degree in finance and management from
the University of Illinois at Chicago in 2004, and his Master of Business
Administration from the University of Miami in 2006. He has been a CFA Charterholder
since 2010 and is currently a member of the CFA Institute and the Stamford
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1) Brian Sylvester of The Gold Report 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: Fortuna Silver Mines Inc., Aurizon Mines Ltd., Endeavour
Silver Corp., Great Panther Silver Ltd. and Colossus Minerals Inc. Streetwise
Reports does not accept stock in exchange for
services. Interviews are edited for clarity.
3) Heiko Ihle: I personally and/or my family own shares of the following
companies mentioned in this interview: None. I am personally and/or my family
is paid by the following companies mentioned in this interview: None. I was
not paid by Streetwise Reports for participating in this interview.
4) Euro Pacific Capital may sell to or buy from customers on a principal
basis the named securities.
5) Euro Pacific Capital owns warrants in Endeavour Silver Corp.
6) Further disclosure information can be found on our website at europac.net