The Gold Report: Gold is up for the year. Do you expect this trend to continue?
Benjamin Asuncion: For 2014, we're officially forecasting an average gold price at $1,300/ounce ($1,300/oz). We've elected to err on the side of conservatism in our commodity forecasts, which leaves company valuations to be more reflective of operating performance than reliant on higher metal prices.
TGR: Ambrose Evans-Pritchard of the Daily Telegraph says if the Federal Reserve "has to back off [tapering] again, gold will have a fresh lease on life." Do you agree, and do you think the Fed is committed to tapering?
Geordie Mark: I agree that if the Fed backs off tapering, it's a total game changer for sentiment. Janet Yellen, the new Fed chair, has certainly been quite cautious as to how she's going to approach monetary policy, so right now we're in a wait and see period, but that being said, the market now appears to show a certain positive sentiment for precious metals companies.
TGR: We've seen various currency panics around the world in recent weeks. Will this lead to a flight to safety in the U.S. dollar?
GM: Ultimately, strengthening of the U.S. dollar likely will be based on a strengthening U.S. economy rather than capitulation of other major currencies. The outlook with regard to tapering demonstrates broader directional strength in the U.S. dollar. We might be able to expand on that.
TGR: For several years, what's been good for the U.S. dollar has been bad for gold and vice versa. Is this a new iron law, or could it change?
GM: That's definitely been the argument in the past. However, the big thing here is that we've got another player that could firm up the gold price: China.
BA: The Chinese typically take a longer view on investing in gold. Last year we saw outflows from exchange-traded funds (ETFs) in the order of roughly 30 million ounces (30 Moz). That amount was quite close to the amount of gold being imported by China from Hong Kong.
The amount of gold being replaced annually is growing significantly slower than the money supply. So we are seeing support for higher metal prices, and the ounces out there are in demand, given the lower prices that are reducing production.
TGR: What's your 2014 forecast for silver?
BA: We're currently using US$21.50/oz in our valuations, based on a gold price of $1,300/oz, which implies a silver-gold ratio of about 60:1. This ratio is fairly consistent with the ratio we've seen from 2000 onward. Looking at the relationship between the two metals, historically silver has correlated closely with gold but demonstrated roughly twice the volatility.
TGR: Unlike gold, silver has industrial uses. How does the supply-demand question in silver look?
GM: On the supply side, the majority of silver production comes as a byproduct of other mining operations (i.e., lead and zinc), therefore, the silver price doesn't necessarily dictate the economic viability of these mines. This results in an appreciable amount of silver supply that's fairly agnostic to the silver price, which translates to greater fluctuations in prices, particularly on the downside.
On the demand side, we have industrial applications accounting for roughly half of the total demand, followed by jewelry, coinage, photography and silverware. Investment demand accounts for the remainder, for which the silver ETF holdings are a significant source. On the ETF side, we see a different picture compared to gold, with gold ETFs shedding ~30% last year, in contrast with a more optimistic picture of silver ETFs posting a marginal increase.
TGR: Gold and silver equities have lagged prices significantly in recent years. Is this changing?
BA: So far this year, we've seen this change as gold and silver have been relatively lackluster with each posting gains around 10%, a stark contrast to the equities that have risen upward of 30–40%, pointing to improving sentiment.
GM: Well, we're starting to see an increase in the overall merger and acquisition activity levels from producers through developers and even exploration companies. Producers are looking to augment their production profile through production consolidation and the shedding of marginal operations. This is what we're seeing with Goldcorp's bid for Osisko—improving Goldcorp's geopolitical risk profile (through increasing its exposure to regions with lower geopolitical risk) and bolstering its projected consolidated cash costs.
"We're looking for mining companies to deliver on costs and to improve margins."
Other examples of producer consolidation include Primero Mining Corp.'s (PPP:NYSE; P:TSX) bid for Brigus Gold Corp. (BRD:NYSE.MKT; BRD:TSX). We've also seen the majors shed non-core or marginal operations, namely Silver Standard Resources Inc.'s (SSO:TSX; SSRI:NASDAQ) acquisition of the Marigold mine in Nevada (jointly owned by Goldcorp and Barrick Gold Corp. [ABX:TSX; ABX:NYSE]). Moving further down the food chain, we've seen examples of producers picking up stranded development-stage projects (i.e., B2Gold Corp.'s [BTG:NYSE; BTO:TSX; B2G:NSX] takeover of Volta Resources Inc.).
TGR: The crisis in precious metals equities is almost three years old. What must junior gold and silver mining producers do to ensure their survival?
BA: To ensure survival in the paradigm of declining metal prices, companies have trimmed non-operational expenditures (i.e., corporate general and administrative, and exploration) and deferred significant capital projects to preserve the balance sheet. We're also seeing some signs of more selective mining (i.e., focusing on higher grade and higher margin production). However, the latter requires a longer-term outlook.
One of the criteria we evaluate companies on is their ability to endure at current metal prices—those without significant burdens like hedges or onerous amounts of leverage or debt. We're focusing on companies with attractive valuations that we see have the opportunity for lower cost growth profiles with the means to fund development plans. Having said that, given the current equity valuations, sometimes it's cheaper or less risky to wait and buy ounces than drill them.
TGR: What must junior explorers to do survive?
GM: Juniors need to differentiate themselves from their peers. Right now these companies need to take a step back and take time to assess or re-assess their portfolios. Exploration targeting metrics need to be cognizant of prevailing commodity prices and thus look for mineralized systems capable of potentially operating in a lower commodity price environment. Such strategy also follows for those companies with defined assets that need to be re-examined in light of a lower commodity price environment. Such strategies likely will make those companies capable of attracting available capital in the markets. Above all, companies must continue to move forward rather than to stagnate.
TGR: What are your top picks among the gold companies you follow?
GM: We recently returned from a site visit to B2Gold's Otjikoto gold project in Namibia. This company's management has a track record of capitalizing on acquisitions by adding ounces and expanding production. Otjikoto should be in production by the end of 2014.
B2Gold has a significant production growth profile, which we estimate production of approximately 400,000 (400 Koz) this year at cash costs of US$725/oz, growing 60% over the next two years to around 630 Koz in 2016 with lower cash costs. This is what we like: producers with margins and growth potential.
TGR: What's your rating for B2Gold?
GM: We've given it a Buy rating and a target price of $3.50.
TGR: B2Gold took over Volta, and Asanko Gold Inc.'s (AKG:TSX; AKG:NYSE.MKT) takeover of PMI Gold Corp. has just closed. What do you think of Asanko?
"What's crucial is dynamic management in creating value, whether it's by additional discovery, augmenting production or undertaking cost control and improving operating margins."
GM: With Asanko's acquisition of PMI Gold, the company gained around 4.5 Moz gold in resources, bringing its total to just over 10 Moz. Asanko is a re-invigorated company now with significant potential and financial flexibility having over US$270 million (US$270M) in cash and up to US$150M in undrawn debt. All of Asanko's assets are in Ghana and we're looking at the company heading down the development road later this quarter, targeting initial production by 2016 and growing from there. We see the company's plan of initiating production from the higher-grade deposits at Obotan as a prudent, lower-risk strategy that facilitates organic growth funded from operating cash flow.
TGR: What's your rating for Asanko?
GM: We've given it a Buy rating and a target price of $3.75.
TGR: What else do you like in Africa?
GM: Papillon Resources Inc.'s (PIR:ASX) Fekola project is, in my view, the best gold asset discovered in Africa in the last half-dozen years. It's in Mali, just over the border from Senegal and close to Randgold Resources Ltd.'s (GOLD:NASDAQ; RRS:LSE) 11.5 Moz Loulo project and AngloGold Ashanti Ltd.'s (AU:NYSE; ANG:JSE; AGG:ASX; AGD:LSE) 13.1 Moz Sadiola project. It is looking for 2017 production.
TGR: How much and at what cost?
GM: Around 320 Koz annually over the first 11 years at an all-in sustaining cost of US$740/oz.
TGR: What's your rating for Papillion?
GM: We've given it a Buy rating and a target price of $1.60.
TGR: How about gold development projects in the U.S.?
GM: Midas Gold Corp. (MAX:TSX) has the Golden Meadows project in Idaho. This is a fantastic asset, a cornerstone asset, and was a site of historic but fragmented production over an extensive period. Midas has strong management led by CEO Steve Quin with experience in advancing projects through permitting, development and into production, as well as remediation. You don't get that very often at all in a development-stage company.
Midas has more than 7 Moz in resources, of which we estimate 5 Moz would be mined over a 13-year period at a cash cost of about $420/oz gold net of byproduct credits. However, we're quite conservative on U.S. permitting and the time it will take for its plan of operations to be reviewed and approved. It could take as little as three years, but our valuations are typically generated considering a longer permitting process.
TGR: What's your rating for Midas?
GM: We've given it a Buy rating and a target price of $1.50.
TGR: Any other U.S. development stories?
GM: Midway Gold Corp. (MDW:TSX.V; MDW:NYSE.MKT) has the Pan project in Nevada. The company also has great management, led by CEO Ken Brunk, an operator with a lot of experience at Newmont Mining Corp. (NEM:NYSE). Nevada is a very promising jurisdiction, and Pan has demonstrated that permitting decisions can be rather rapid. We're looking at it being in production by Q4/14.
TGR: What's your rating for Midway?
GM: We've given it a Buy rating and a target price of $1.20, but note that our financing assumptions call for much greater dilution than would be the case if considering prevailing market prices.
TGR: Your ratings for silver companies are more conservative than for gold companies. Do you give any silver miners a Buy rating?
BA: We have a Buy rating on Mandalay Resources Corp. (MND:TSX).
TGR: Mandalay just bought the Challacollo silver-gold project in Chile from Silver Standard Resources for $16.7M. A good purchase?
BA: I think that's a question we're looking to have answered later this year with the 12-month timeline it set for completion of a feasibility study. Historically, Mandalay has a track record of very cheap acquisitions, with the Costerfield mine in Australia and the Cerro Bayo mine in Chile. Challacollo provides Mandalay with a project that has seen quite a bit of exploration and some historic production going back to the 1980s or so.
The property has a defined resource containing 33 Moz silver at a grade of 200 grams per tonne, but my sense is Mandalay will look to tighten up those grades to help boost the economics when the company tables the feasibility in the coming 12 months. The company is planning an 8,000–10,000 meter drill program focused on infilling the deposit, as the majority of those ounces are in the Inferred category.
TGR: You mentioned that Mandalay's management is good at acquisitions. How about operations?
BA: Brad Mills, the CEO, was formerly CEO of Lonmin Plc (LMI:LSE). He was an executive with BHP Billiton Ltd. (BHP:NYSE; BHPLF:OTCPK), as was President Mark Sander. They have a history of delivering on expectations and we're starting to see the fruition of a lot of development plans come into place, namely at Costerfield with the high-grade Cuffley Lode. Historically, margins at Costerfield had been lackluster, generating enough to pay for ongoing exploration but not as significant of a contributor to the bottom line. The value driver has been Cerro Bayo, but we saw improved contribution from Costerfield last year and expect that to increase going forward.
Mandalay also stands out among the juniors given its alignment with shareholders, both in terms of returning value to shareholders through dividends and management owning a significant stake in the company.
TGR: What's your rating for Mandalay?
GM: We've given it a Buy rating and a target price of $1.30.
TGR: What other silver companies would you like to discuss?
BA: Fortuna Silver Mines Inc. (FSM:NYSE; FVI:TSX; FVI:BVL; F4S:FSE), which has two assets: Caylloma in Peru and San Jose in Mexico. San Jose is the big value driver here, especially given the recent Trinidad North discovery Fortuna has made there. What makes Trinidad north so interesting is the high grades and proximity to underground development, which means Fortuna will be able to go from discovery drill hole to production and cash flow in just over two years. At San Jose, we see growth from 2.5 Moz silver in 2012 to 5 Moz in 2015. The company also has a strong management team with a track record of successful and prudent acquisitions.
TGR: What's your rating for Fortuna?
BA: We currently have a Hold rating and a target price of $5.00.
TGR: What do you think are the sources of optimism for investors in 2014?
GM: Ultimately, turnarounds in operator performance. We're looking for mining companies to deliver on costs and to improve margins. Commodity prices will do what they do; they are out of our control. But solid operations performance by the companies is expected to be returned in equity valuations as the market regains confidence in individual companies, as well as in the sector as a whole.
BA: The story going into Q1/13 was declining cost profiles from operators. Some delivered on that last year, and some didn't. However, across the board most are still pointing to improved performance in 2014 relative to 2013. That's one source of optimism.
The other thing we'll be looking for in 2014 is companies that can execute on acquisitions and consolidate stranded assets. Even companies that operate and execute may be constrained by other considerations, such as being laden with more debt than they can service in the current metal price environment.
TGR: Since the bear market in gold and silver equities began in April 2011, a fair number of investors have been holding on to battered stocks with the view that there has to be a turnaround. Some stocks have continued to fall. Should investors cut their losses, cull these stocks and consolidate in companies that look like better bets?
BA: I think this consideration really has to be taken on a position-by-position basis. Our consensus here is generally evaluating all project merits, but companies that are not advancing their projects and just whittling away at their treasuries are not good bets.
I think that investors still looking for exposure within the exploration side should examine companies that still have plans to expand their projects, companies that are still in some sense moving forward. From an investment point of view, if investors are holding onto an explorer that isn't doing anything to advance its project or is overburdened with debt, they really aren't getting anything by holding on to that company. Looking forward 12 months, what will be different with that company? Investors should review their portfolios with a view to determining which companies can survive with reasonable commodity price expectations.
GM: Ben is saying that investors should become more company specific in their investments. What's crucial is dynamic management in creating value, whether it's by additional discovery, augmenting production or undertaking cost control and improving operating margins. All of those factors are exceedingly important components of creating future value for shareholders. They are the positive milestones to put equities in a more positive light.
TMR: Ben and Geordie, thank you for your time and your insights.
Benjamin Asuncion is a research analyst with Haywood Securities. Asuncion was previously involved in the management of a $10 million endowment fund at Simon Fraser University. He holds a Bachelor of Business degree from Simon Fraser University.
Geordie Mark is the co-head of mining research at Haywood Securities. He was previously an analyst with Passport Capital. In an earlier period he was vice president of exploration for Cash Minerals. Prior to joining the exploration industry full-time, he lectured in economic geology at Monash University, Australia, and served as an industry consultant. He holds a Ph.D. in geology from James Cook University.
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1) Kevin Michael Grace conducted this interview for The Gold Report and provides services to The Gold Report as an independent contractor. He 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: Primero Mining Corp., Mandalay Resources Corp. and Fortuna Silver Mines Inc. Goldcorp Inc. is not associated with The Gold Report. Streetwise Reports does not accept stock in exchange for its services or as sponsorship payment.
3) Benjamin Asuncion: I or my family own shares of the following companies mentioned in this interview: None. I personally am or my family is paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: Mandalay Resources Corp. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.
4) Geordie Mark: I or my family own shares of the following companies mentioned in this interview: None. I personally am or my family is paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: Midas Gold Corp. and Midway Gold Corp. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.
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