The Gold Report: Most of the companies you cover either mine gold or copper. What's GMP Securities' forecast for each?
Ian Parkinson: We're using $1,350 per ounce ($1,350/oz) gold, flatlined. On the copper side, we have a $2.85/pound ($2.85/lb) long-term copper price, but this year and next we're forecasting $3.30/lb. We see the copper price being range bound above $3/lb and then trending down to $2.85/lb, which is probably toward the bottom of the Street's consensus.
TGR: What are your thoughts on recent copper consumption data from China?
IP: It's not as robust as we would like, but London Metals Exchange (LME) data suggests copper inventory levels are being drawn down almost daily. LME warehouses in June and July 2013 had well over 600,000 tons (600 Kt)—they are now below 200 Kt. There isn't a huge stockpile of copper available to disrupt the market. We're seeing cash to three-month spreads tighten, which means nearby copper is being priced higher than three-month material. Without any major changes in China, we see this being the price range for the next year or two.
TGR: Can the companies that you cover make money at current gold and copper prices?
IP: Yes. I have a positive outlook on most of the base metal names that I cover using a long-term copper price that's below today's spot price. But those companies need to be prudent.
TGR: What's the average margin with the companies you cover in the base metals space?
IP: On a cash-cost basis, low costs would be in the $1.30–1.40/lb range, and then higher costs would be around $2/lb. That would be only the site costs. Adding offsite costs—transportation, etc.—could raise costs to $2.30–2.40/lb. Today's copper price is sustainable for most producers. At $3.15/lb copper, even a non-best-in-class copper producer is going to generate $0.50–0.60/lb margin. The real question is: Is the current copper price substantial enough to overcome the lofty capital expenses developers face?
TGR: What type of margin are companies typically generating at $1,300/oz gold?
IP: It varies. Some companies I cover have cash costs in the $600–700/oz range, but when we factor in everything else, we quickly get to all-in sustaining costs of $1,000–1,050/oz. That's the rationale for the all-in sustaining cost reporting—so people can more easily determine the margin. We are seeing all-in sustaining costs around $1,000/oz for a lot of producers.
TGR: You believe mining equity investors will see an onset of "macrocentric" merger and acquisition (M&A) activity in the sector in 2014. Would you please elaborate?
IP: I believe that we will definitely continue to see M&A, but there may be some debate as to whether it's purely macrocentric. I think it's the right time for M&A. If we go back several years, there was growth for the sake of growth. I see things being more opportunistic now. We've seen it already with Goldcorp Inc.'s (G:TSX; GG:NYSE) takeover bid, and subsequent bids, for Osisko Mining Corp. (OSK:TSX).
TGR: What types of companies will drive this kind of M&A?
"I'm encouraged that the industry is focusing on economics. Growth for the sake of growth is no longer the preeminent mantra."
IP: I think it's going to be a marriage between a balance sheet and a project, perhaps from state-owned enterprises, the typical Chinese buyer or large multinationals seeking growth. Pre-cash flow projects can be thought of as cheap exploration. There are a substantial number of junior mining companies with market caps that are smaller than what they have sunk into the ground. The market is not giving much value to these development or explorer stories because the opportunity to raise development capital in the junior market is not there, except for something special. It's an opportunity for the large, Western, publicly traded mining companies or state-owned enterprises with decent balance sheets and a focus on growth to step in and say, "We will take that off your hands."
TGR: Do you cover any names you believe could be M&A targets?
IP: I could make an argument for a takeover of the vast majority of companies I cover.
On the base metals side, my coverage focuses on copper. Copper is strategically important and the fundamentals look solid—it's a 22 million ton market. There will be continued desire to grow the copper portion of a mining company's portfolio. On the gold side, I cover some quality companies that have the scale and the right political risk. When we're talking about M&A, it's not simply about the commodity or the cost structure, it's also about political/jurisdictional risk.
TGR: Large companies want large-scale, low-cost, long-life projects in relatively safe jurisdictions. What fits the bill?
IP: I look at a name like Nevada Copper Corp. (NCU:TSX). The company is building phase one of the Pumpkin Hollow mine in Nevada. It checks all the boxes. It's in a mining-friendly jurisdiction in the U.S. with road access and an able-bodied work force. It's a project that has the right scale if we look at the big picture. Phase one is the underground portion of Pumpkin Hollow but the bigger prize is the as-yet unpermitted open-pit mine that would move the needle for any suitor. The permitting timeline is less problematic for a larger company. If permitting takes 6, 12 or 18 months, it's less of an issue in a broader portfolio of assets.
TGR: Do you have a permitting update on phase two?
IP: The Lyon County Land Bill has been entered into the calendar of the U.S. Senate. Subject to scheduling among other Senate business, the bill could be heard at any time, so I am optimistic. If the bill passes, we could be talking about having all the boxes checked by the end of the year.
TGR: Does that account for the overhang on the stock?
IP: Yes, mostly. Phase one is not 100% financed so there is a financing overhang, but I think it's quite minor. I think the company can overcome it. This is an example of a big disconnect in the market. Nevada Copper is trading at 0.41x our estimated net asset value (NAV). But its producing peers are trading at much higher valuations: Capstone Mining Corp. (CS:TSX) is trading at 0.59x NAV, Lundin Mining Corp. (LUN:TSX) at 0.86x NAV and First Quantum Minerals Ltd. (FM:TSX; FQM:LSE) at 0.95x NAV. You could argue that Nevada Copper is trading like a junior that's not as advanced.
TGR: What's another name that ticks off all the boxes for a larger company?
"Management teams are being forced to be prudent. The industry is in better shape today than it was a year and a half ago."
IP: I think there are opportunities with single-asset companies. Another one that comes to mind is Copper Mountain Mining Corp. (CUM:TSX). It runs the Copper Mountain copper-gold-silver mine in south-central British Columbia. It would move the needle for another midtier copper producer. The company tends to lag the valuations of more senior players. In our numbers, Copper Mountain trades at 0.69x NAV; larger names are trading at 0.85–0.95x NAV in today's market.
TGR: What's your target price on Copper Mountain?
IP: I have a $3.20 target—based on 1x our NAV10 estimate.
TGR: Copper Mountain is up about 35% this year. It's noteworthy that you're ranked No. 1 in the Bloomberg Absolute Return Rank (BARR) for your call on Copper Mountain.
IP: Thank you. I didn't realize that.
TGR: Copper Mountain and Lundin Mining, both of which are under coverage, are performing. What are some common denominators in their success?
IP: They're base metal-focused. I have a stronger view on the base metal pricing structure versus bulk commodities like iron ore. If we go up-market and start playing in the realm of BHP Billiton Ltd. (BHP:NYSE; BHPLF:OTCPK) and Rio Tinto Plc (RIO:NYSE; RIO:ASX; RIO:LSE; RTPPF:OTCPK), we are taking on more of that bulk commodity exposure. Investors have to come down to these smaller names to get that pure exposure to base metals.
The valuation of Copper Mountain and Lundin, as well as other companies that I cover, are all driven by the same inputs. Our price targets are all 1x NAV/share, using the same price deck for all companies.
TGR: Where is the best value?
IP: Capstone Mining is a valuation call. I think there's a catch-up to be made in that name. I can't explain why it is lagging the group. It recently acquired the Pinto Valley asset from BHP Billiton and that asset is running well. The cash costs were a bit higher than it originally guided, but they are trending in the right direction. All things are looking solid at Pinto Valley. Capstone's other assets are Minto in the Yukon and Cozamin in Mexico. My price target is $4.50.
TGR: Lundin's best asset is a 24% stake in Freeport-McMoRan Copper & Gold Inc.'s (FCX:NYSE) Tenke Fungurume copper mine in the Democratic Republic of the Congo (DRC). How does that asset compare to others in its peer group?
IP: It's a staggering asset in terms of grade and scale. We are dealing with a mine that's moving material that's 10 times the grade of other mines in my coverage universe. What holds back the deposit is that it's located in the DRC—a difficult place to do business due to limited power, infrastructure and the overall work environment. If that deposit were anywhere else in the world, it would have been mined much earlier and be much bigger than it is.
TGR: How does Lundin balance the DRC risk?
IP: Lundin has become increasingly diversified. The Eagle nickel-copper mine, its main growth asset, is under construction in Michigan's Upper Peninsula—the polar opposite of the DRC in political risk. There's also the Zinkgruvan zinc-copper-lead mine in Sweden, and the Neves-Corvo copper-zinc mine in Portugal. Its political risk is broadly diversified. I have a $6.75 target on Lundin.
TGR: Most of the gold companies you cover have been given a rough ride in 2014. Among the underperformers year-to-date, which ones are poised to post a stronger H2/14?
IP: Probably Argonaut Gold Inc. (AR:TSX) and AuRico Gold Inc. (AUQ:TSX; AUQ:NYSE), for different reasons. Argonaut has two producing mines, El Castillo and La Colorada. El Castillo in Durango, Mexico, had a pretty rough finish in 2013. The mine schedule at El Castillo saw it mining transitional ore for longer than expected and that impacted recoveries and production into Q1/14. That's over, but I think the market probably needs to see it deliver. The recent pullback with the name is really based on that short-term operating scenario. We should see Argonaut revert to where the name was trading not that long ago.
TGR: Scotia Bank recently revised Argonaut's target to $6.50 from $8. Yours remains at $8.50. Why?
IP: I still have a positive view on its growth assets. We just talked about El Castillo and La Colorada. Argonaut has two other growth assets: San Antonio in Mexico and Magino in northern Ontario. I carry value for essentially all five parts of the story: the two operating mines—El Castillo and La Colorada—San Antonio, Magino and then San Agustin, which it recently acquired from Silver Standard Resources Inc. (SSO:TSX; SSRI:NASDAQ) and is now drilling. The first set of drill results looks very encouraging.
TGR: San Antonio has had some permitting issues. Do you believe Argonaut can work those out and get that asset into production?
IP: With San Antonio it's a matter of time. The asset has value, and I think it will go into production.
TGR: And AuRico?
IP: It's a "show me" year with AuRico, because it is transitioning from an open-pit mine at Young-Davidson in northern Ontario to underground mining at higher grades. More ore is coming from the underground portion but it's still ramping up and that's skewing the financial numbers. By the time Q3/14 rolls around, the open pit should be completely shut down and the numbers should be clearer. The higher grade should move its mining costs in the right direction.
TGR: You have a $2.50 target on Timmins Gold Corp. (TMM:TSX; TGD:NYSE.MKT). After a brief rally earlier this year, the share price hovers around $1.50 despite better than expected earnings and cash flow per share in Q1/14. What's going to move that name?
IP: Timmins is a single-asset story and that may help explain the underappreciation of the name. It has solid cash flow, solid earnings per share but not a great deal of growth beyond the San Francisco mine in Mexico. Having said that, in a higher gold price environment the company's land package has some exploration upside.
TGR: The mill is operating pretty much at nameplate capacity, isn't it?
IP: Timmins added crushing capacity last year and made incremental improvements on the ground without spending a lot of capital. Timmins is a solid operating group doing what it said it was going to do, exceeding expectations the first part of the year and operating in a very safe part of the world.
TGR: AuRico took a close look at Timmins a few years ago. Would a takeover make sense?
IP: I regularly field that question. AuRico's El Chanate mine is geologically similar to Timmins' and not too far away. If you're looking for consolidation stories, it makes a lot of sense.
TGR: Please leave us with a thought or two to buoy the spirits of disheartened gold investors.
IP: I'm encouraged that the industry is focusing on economics. Growth for the sake of growth is no longer the preeminent mantra. Assets are being shelved, sold or put on care and maintenance as companies focus on assets that make money. Management teams are being forced to be prudent. The industry is in better shape today than it was a year and a half ago.
TGR: Thank you for your insights, Ian.
Ian Parkinson joined the GMP mining research team in November 2012 and has been a sellside mining analyst since 2006. He joined the analyst community after a successful 10-year career in industry with Falconbridge and Noranda. During Parkinson's time in industry he worked on a wide range of exploration, development and commercial interests, which include the Craig and Onaping depth discovery, Raglan mine, Lady Loretta and business development for the zinc business unit at Noranda. Parkinson is an earth science graduate of Laurentian University in Sudbury, Ontario, where he was born and raised in a mining family.
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1) Brian Sylvester conducted this interview for Streetwise Reports LLC, publisher of The Gold Report, The Energy Report, The Life Sciences Report and The Mining Report, and provides services to Streetwise Reports as an independent contractor. He owns, or his family owns, shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of Streetwise Reports: Argonaut Gold Inc. and Timmins Gold Corp. Goldcorp Inc. is not affiliated with Streetwise Reports. Streetwise Reports does not accept stock in exchange for its services.
3) Ian Parkinson: I own, or my family owns, 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. GMP Securities L.P. has equity research coverage on the following issuers and the relevant issuer research reports include the applicable disclosures as required by the Investment Industry Regulatory Organization of Canada ("IIROC"). Goldcorp Inc., Osisko Mining Corp., Nevada Copper Corp., Capstone Mining Corp., Lundin Mining Corp., First Quantum Minerals Ltd., Copper Mountain Mining Corp., Argonaut Gold Inc., AuRico Gold Inc., Silver Standard Resources Inc. and Timmins Gold Corp. GMP Securities L.P. does not provide research coverage on this issuer and therefore no research reports are issued by the firm: BPH Billiton Ltd., Rio Tinto Plc and Freeport-McMoRan Copper & Gold Inc. 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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