Mines Management (MGN) was one of the top-performing gold or silver stocks today. It was up more than 25%, before giving back a bit late in the day and closing up 12%. The volume today was more than 10 times the average daily volume!
But this jump in the share price is not being driven by any positive news or fundamental changes within the company. It was not driven by a higher gold or silver price, as both metals were flat for the day.
It was driven by a recommendation/endorsement/suggestion by the silver investor, newsletter writer and previous mint operator, Jason Hommel. He sent an email to some 100,000 subscribers last night suggesting that Mines Management was undervalued. It obviously moved the market. Click here to view the email.
I don’t have anything against Mr. Hommel or Mines Management. Everyone has a right to their opinion and I publish investment ideas all of the time. But I would caution against chasing this particular stock higher.
Why I am Not Buying Mines Management
The following covers why I am not buying Mines Management on this breakout and why I think there are better values in silver mining stocks. Please keep in mind this is all just my personal opinion and not investment advice. I am an individual investor and not an investment adviser. I do not have a position in Mines Management, long or short.
Mines Management is a silver explorer listed on the NYSE MKT under ticket MGN. The company has been around since the start of the precious metals bull market. The stock price has fluctuated from $0.08 to over $8.00. Their primary focus is on the advancement of the Montanore silver-copper project located in northwestern Montana, with a goal to ultimately become a new mid-tier producer of precious and base metals.
Montanore is an advanced stage exploration project containing a Canadian NI 43-101 measured resource of 4.03 million tons of material grading 1.85 ounces per ton (“opt”) silver and 0.74% copper, an indicated resource of 77.5 million tons grading 2.05 opt silver and 0.75% copper, and an inferred resource of 35.1 million tons grading 1.85 opt silver and 0.71% copper, and is currently undergoing the process to obtain permitting approval.
Mr. Hommel points out that Montanore has a net present value (NPV) of $700 million and states:
“If the stock price goes up to match the net present value of the project, this means that the stock price could go up to a share price in excess of $20/share. (The math: $700M/$20M x .70/share = $20/share!).”
However, he does not mention that the CAPEX is over $550 million to build the project and this cost estimate is outdated and likely understated. Mines Management has an internal rate of return (IRR) of 20.7%. While this number isn’t horrible, it was calculated during 2010, when costs for just about everything were significantly less. With the liklihood that the CAPEX has gone up considerably since it was estimated over 3 years ago, the project economics will probably be significantly less robust. If only including Measured and Indicated resources, the pre-tax IRR drops to 12.8% using base case metal prices.
NPV vs Market Capitalization
Mr. Hommel is correct that the gap between the Montanore project NPV and Mines Management market cap is huge on the surface. But if they used a more honest after-tax NPV and updated the report with current costs, the divide narrows.
Furthermore, it is normal for gold/silver miners to have market caps that are a fraction of their main project NPV. To suggest that the stock price could rise so that the market cap will meet the NPV anytime soon is misleading. Especially when the NPV figure is pre-tax, unless the company isn’t planning to pay any taxes on future revenues.
To illustrate this point, Wildcat Silver owns the Hermosa silver project in Arizona with an after-tax NPV of $575 million (pre-tax NPV of $700M+), yet their market cap is only $65 million.
Silver Bull Resources owns the Sierra Mojada project in Northern Mexico. It has a pre-tax NPV of $431 million at current silver prices, yet has a market cap of just $50 million. But no rational investor is expecting their market cap to go up 800% to meet the project NPV anytime soon. The pre-tax IRR at $20 silver is in line with Mines Management at 20%.
Goldrock Mines owns the Lindero project with an NPV around $220 million at current gold prices. Yet their market cap is just $22 million. I have held the stock in the past expecting appreciation, but never thought the market cap would rise to $220 million absent a significant rise in the gold price. But even then, the rising gold price would push up not only the market cap of Goldrock, but also the NPV of the project. Never the twain shall meet.
To get an idea of what a truly robust economic return looks like, Pretium‘s Brucejack project has a pre-tax IRR of 43%, more than double that of Mines Management. This is using $20 silver and $1,350 gold.
These are just a few examples off the top of my head and there are no doubt plenty of others. Having a PEA that generates a project NPV 10 or 20 times the market capitalization is not unusual in this sector. The fact that the multiple is closer to 30 with this company is worth calling out, but we have no idea if these numbers are still relevant or what the after-tax calculations would look like.
Mines Management hasn’t announced any plans to advance the preliminary economic assessment (PEA) to a pre-feasibility study (PFS) or full feasibility study (FS), despite having completed the PEA 3 years ago. They have been waiting for environmental permits for years and continue to lose money every quarter. During the latest quarter they lost $1.8 million, annualized to a loss of over $7 million per year. The company expects to require external financing before mid 2014 in order to continue running their business, so investors might see share dilution in the near future.
Parting Shot
While Mines Management has an attractive NPV relative to their market capitalization, the PEA is outdated and the cost estimates are no longer reliable. The internal rate of return (IRR) of around 20% is decent, but certainly not robust. Even if they receive all environmental permits, they will still need to raise well over $550 million in order to finance the construction of the mine and this will be hard to accomplish with nothing more than a 3-year old PEA. They will probably need a full feasibility study, which will involve additional financing and time, pushing back any target for future production by 3 or more years.
I am not saying that Mines Management is a poor investment or that Jason Hommel is pumping the stock for personal gain. The share price of Mines Management could very well rise and outpace other miners going forward. However, generating a price target based on the pre-tax NPV of the company’s core project seems a little misleading. He may not have been paid to write the email, but he was a shareholder prior to doing so and his promotion certainly netted him a nice gain today.
Notice all of the buying and upward price movement in the morning hours, followed by a large sell order shortly after 3pm today. Those that bought around $0.84 to $0.85 lost roughly 10% by the market close today.
Judging by the stock having 10 times average daily volume, there were obviously plenty of people that were inspired by Jason Hommel’s email to buy shares of Mines Management this morning. While it may turn out to be a sound investment over time, investors should realize that anyone with a sizable email list can move the price of a small cap stock significantly. Whether it is a stock profiled by Jason Hommel, Gold Stock Bull or anywhere else, make sure to perform your own due diligence and understand the calculations behind the price targets before putting your money at risk. And as always, be cautious with following the herd into a small cap stock pick.
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